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Parsley Energy Inc (NYSE:PE)
Q4 2019 Earnings Call
Feb 20, 2020, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, ladies and gentlemen. Welcome to Parsley Energy's Fourth Quarter 2019 Earnings Conference Call. My name is Christine, and I will be your operator today. [Operator Instructions]

Now I'm pleased to turn the call over to Kyle Rhodes, Parsley Energy's Vice President of Investor Relations.

Kyle Rhodes -- Vice President Investor Relations

Thank you, operator, and good morning, everyone. With me on the call this morning are President and CEO, Matt Gallagher; Chief Operating Officer, David Dell'Osso; Chief Financial Officer, Ryan Dalton; and Senior Vice President of Corporate Development, Land and Midstream, Stephanie Reed. Our remarks today may contain forward-looking statements, so please see our earnings release for a discussion of these statements and associated risks, including the fact that actual results may differ materially from our expectations.

We also make reference to non-GAAP measures, so please see the reconciliations in the earnings release. During this call, we will refer to an investor presentation that can be found on our website, and our prepared remarks that will begin with the reference to slide three of that presentation. After our prepared remarks, we'll be happy to take your questions.

And with that, I'll turn the call over to Matt.

Matt Gallagher -- President and Chief Executive Officer

Thanks, Kyle. Before I get going, I want to take a moment and send Parsley's respect and condolences to the Williams family. Clayton Williams is a legend and his impact will be long-lasting in West Texas, all of Texas, and all of big oilfields. He was a true wildcatter and a proud oilman who harnessed the entrepreneurial spirit of exploration in our industry. Thank you for allowing time in his honor. It was a busy year for Parsley. And I am proud to say the team sprinted through the finish line and has carried that moment into 2020. In December, we published our inaugural Corporate Responsibility Report. The first generation of what will be a living document outlining the company's commitment to environmental stewardship. In early January, we closed our acquisition of Jagged Peak less than 90 days after announcement, a truly remarkable pace. The dedication and effort of our multidisciplinary integration team provides us a head start in capturing synergies and fosters a quick time line to shift the go-forward development of these assets to a more returns-focused approach. With this, I'd like to further highlight our dedicated integration team.

We are at day 41 post close, but their work really began on October 14. They are tenacious in their efforts, and we are already seeing the results. David will go into more details. On top of this, I personally have been very impressed with the force multiplier of our IT group, tackling back-end integration and pushing real-time capabilities aggressively across the organization. We are energized to deliver, and the team is off to a great start. Execution is key. In late January, we boosted our return of capital program, with an increase to our dividend, reinforcing our commitment to a sustainable free cash flow profile. In early February, we refinanced a tranche of our bonds at a 4.125% interest rate, lowering our cost of capital as we continue to progress toward a collective investment-grade ratings. All these accomplishments supplemented a strong fourth quarter on home base, highlighted by continued improvements in capital efficiency. As a reminder, our capital spending came in nearly $30 million below our bottom of our full year guidance range of $1.4 billion. Our team is firing on all cylinders.

Let's move on to slide four. In this market, accountability is more critical than ever. The industry currently has a credibility gap that can only be bridged by 10-Qs and Ks. As partially demonstrated throughout 2019, delivering on what we say is important to us. With that in mind, let's check back on our 2019 action plan. A lot of good news here, down the right-hand side of the page. If you recall, coming into 2019, one of our key goals was to accelerate our time line to sustainable free cash flow. We got there ahead of schedule with free cash flow generation in both the third and fourth quarters, and we cemented this corporate mindset with the initiation of a regular dividend program. Another key objective for 2019 was to tangibly improve our capital efficiency. We initially targeted at an 8% to 10% improvement. The Parsley team delivered twice that. Strong cost controls, operational efficiency, and a buy-in across the organization for Parsley's return-focused development approach made this achievement possible. We have discrete area teams, and I want to recognize those teams in embracing this mindset and delivering results. Next, I want to provide a brief update on the strategic review for our water assets, a process initiated in early 2019.

Over the past few months, our team performed its due diligence on a potential minority sale to a financial partner and ultimately decided not to reach a conclusion during the exclusivity period. As we have long stated, a deal must check every box for us to pursue. Concluding that effort, our water team's focus is on integrating Jagged Peak's complementary infrastructure aligning reporting measures and driving further improvements in capital efficiency. We will continue to evaluate opportunistic value-enhancing transactions for this strategic asset over time, but the key word is opportunistic. Right now, we are focused on integration. Finally, one of our key goals was to publish our inaugural Corporate Responsibility Report, which we accomplished in the fourth quarter. Let's turn to slide five for a closer look at this important ESG-focused initiative. We have spent a lot of time talking about the financial and operational success we achieved during the year. But I am equally proud of the recent strides we have made on various ESG initiatives. Simply put, organizational excellence on this front is quickly becoming a requisite for a license to operate. Fostering a culture that promotes and prioritizes community stewardship is not a new regulation here at Parsley. We have made significant contributions to the local areas we operate.

We have reduced our reaction time by scaling our technology investments to provide real-time facility monitoring and enhanced virtual site visits. We have formed an ESG-focused employee committee that is empowered and led by senior leaders. But I do believe we needed to do a better job on telling our story on the ESG front, and that also includes providing more transparent data, and that's where our Corporate Responsibility Report comes in. Before a word of this report was ever printed, we solicited input from key stakeholders to help determine the focal points, top shareholders, passive money managers, community officials and landowners and government agencies, all the way in to help shape the content. This inaugural report was steered by members of senior management and it establishes an important baseline from which we can measure our future improvements. And as I mentioned before, this will be an ongoing publication that will update annually as we continue to track and promote the company's commitment to environmental stewardship.

Turning to slide six. I wanted to zoom in on a recurring topic of concern for multiple stakeholders, natural gas flaring. Mitigating flaring has been a long-standing priority for Parsley, and I want to commend our team's operational diligence and scheduling dexterity to help keep our flared volumes to less than 3% of our total gas production in both 2018 and 2019. This puts Parsley among the industry leaders, but there is still room to improve. As you can see on the graph, the Jagged Peak assets, we acquired flared more than 20% of gas production over the course of 2019. In certain months, they flared more than 25% of gas production. This will not be acceptable going forward. Our near-term mission is to reduce the flaring on these recently acquired assets to less than 5% by year-end. We are backstopping this commitment by including a quantifiable flaring mitigation target in our 2020 incentive plans for all Parsley employees. Parsley will, again, inclusive of these assets, be at or below 2.5% by year-end 2020. That is the goal. I am proud of our team's desire to take a meaningful and proactive stance on this critical issue. Now on to slide seven. The past year was a resounding success for Parsley on many fronts, but we all know the market looks forward. So as we turn the page to our 2020 action plan, we plan to maintain both a sense of urgency and accountability.

We will again treat this slide as a tangible scorecard as we progress through the year. As you will note, our key objectives are not seasonal. In fact, many tenets of our 2020 action plan seek to build upon our 2019 achievements. Sustaining free cash flow in a $50 oil world continues to be a key objective, and, frankly, is now a mandatory objective given our commitment to a regular dividend program. A strong balance sheet is paramount. We believe a dividend needs to be organically funded with free cash flow. At $50 WTI, we expect to generate at least $200 million in free cash flow in 2020. In a higher oil price environment, we would expect to generate additional free cash flow and would not plan to increase development activity. If oil prices dropped materially below $50, we have the commercial flexibility to adjust activity as needed to meet our dividend commitments while protecting the balance sheet. We are also striving to preserve and build upon the hard-earned capital efficiency gains made in 2019. If you are not climbing the ladder, you are getting passed by or falling down. Standing still should not be a desired outcome for operators of sufficient scale in a softer services environment. Thus, we are again putting a measurable target on the board and are aiming for a 2% to 5% plus improvement year-over-year. One important new addition to our 2020 action plan involves a successful integration of our recent Jagged Peak acquisition.

This includes accountability on multiple fronts. The first is steady execution, continuing to do what we said we were going to do. The second is flaring mitigation, which I touched on earlier. The third area of accountability is synergy capture. Ryan will provide an update on this front later, but our headline goal is to realize at least $25 million in G&A savings this year. To reiterate, Parsley's execution on these objectives will be measurable and tied into our 2020 incentive plans. Our team remains motivated as we start tracking our progress on value creation in 2020.

With that, I'll hand over to David to review some of our 2019 operational highlights and touch on where operations are headed in 2020.

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Thanks, Matt. Let's move to slide eight. I'm excited to report that we may do it on main objective of our 2019 action plan and delivered a step-change improvement in capital efficiency. All told, we recorded a 19% year-on-year improvement, which is roughly double our initial goal. As a reminder, we initially targeted an 8% to 10% year-on-year improvement, but we steadily squeezed out more organic oil production adds with less capital over the course of 2019. Our latest uptick in capital efficiency is largely due to the capital side of the ledger, where strong fourth quarter efficiencies and cost control helped push our spend rate nearly $30 million below the bottom end of our full year 2019 budget. Looking ahead to our 2020 action plan, it's safe to say, our basic playbook will not be changing. We still look at capital efficiencies in equation, you can attack on two fronts. On the numerator, our productivity side of the equation, year-on-year changes should be relatively modest. First, we expect a relatively steady geographic mix with changes, including the roll-in of expected activity on our recently acquired Delaware Basin acreage and a slight uptick in activity in our Western Midland Basin acreage. Second, while we do not plan to change our returns-focused development approach on Parsley's legacy program, we can apply that approach on a go-forward basis to the Jagged Peak projects, which had recently leaned a little more toward an NPV focus.

Moving to the denominator or the cost side of the capital efficiency equation, there's a little more space for annual improvement as you can see with a longer list of bullets there. As a reminder, we captured a good deal of this in our recently revised 2020 budget, which was lowered to $1.6 billion to $1.8 billion. When you add it all up, it amounts to a 2% to 5% year-on-year improvement in capital efficiency for a 2020 action plan. And to reiterate, this is on top of the step-change improvement that we delivered in 2019. We will dig into this a little bit deeper in the various components of this capital efficiency equation in the following slides. With that in mind, let's turn to slide nine. Here, we provide a little more color on our expected development blueprint for 2020. In my view, one of the main highlights of our 2020 program is that we're expecting to reduce capital spending by roughly 15% year-on-year on a combined basis, and organically grow oil production by 10% year-on-year. This is a healthy trend and shows the benefits of maintaining a returns-focused development approach. Zooming in on our expected activity mix, you'll notice a healthy dose of our Midland activities weighted to that western drilling corridor of Martin, Midland and Upton counties.

In general, these western projects exhibit a moderately better rate of return than our eastern Midland Basin drilling corridor. That said, there's a fairly tight distribution for the returns profile of our 2020 program, and you'll notice we still have activity planned in Howard, Glasscock and Reagan counties. So good economic projects in their own right to compete for capital at $50 WTI. And added repetition needs more learning, which can lead to improved capital efficiency in a given area. In other words, the cost curve is not static. The legacy Delaware assets provide a nice example at this point. In mid-2018, our Delaware well costs were too high. Consequently, program returns were deficient to our Midland Basin assets. We reacted and shifted more capital to the Midland. However, we kept one to two rigs running in the Delaware. Efficiency gains started to compound, local sand tests looked encouraging and well costs dropped significantly. So in a span of six to nine months, we saw a material rate of change in our Delaware economics. I think this is an important example to keep in mind when thinking about our Midland-based east development program. Moving on to slide 10. Another one of the goals we laid out in our 2019 action plan was to continue to drive operational efficiency gains throughout the organization. As shown in the graphs, we delivered on this target with drilling and completions efficiency, both up double digits versus 2018 averages. Parsley's recalibration to a higher efficiency level allowed for lower equipment levels and reduced well costs during 2019.

We aim to make this the new normal for Parsley. On the drilling side, we started 2019 thinking we would be 12 rigs to deliver the footage contemplated in our program. Persistent efficiency gain allowed us to drop to 11 rigs at mid-year and drop again to 10 rigs in the fourth quarter. Faster cycle times not only allowed for lower equipment levels, but also reduced well costs. On the completion side, we significantly reduced our non-pumping time as we moved through 2019. At the end of the year, we leveraged our scale to perform a comprehensive RFQ and work with our high-performing service partners on pricing. Keep in mind, we proactively managed our completion schedule so as not to exhaust our budget and required extended frac holiday in the year-end. This helped on two fronts. First, it allowed us to maintain operational momentum into 2020. Second, it allowed service providers to gain efficiencies as well and likely gave a better leg to stand on during our contract negotiations in the fourth quarter. Turning to our 2020 action plan, we aim to defend and extend the efficiency gains we captured in 2019. Jagged Peak integration efforts are progressing well, as our team fast tracked collaboration on best practices. With a fleet of 14 to 15 high-spec rigs and four to five high-quality factories running, we expect to reside in that sweet spot for scale. Turning to slide 11. I wanted to take a minute to discuss a topic that's been a focus of investors for the past few months, namely, how will Parsley's go-forward development approach differ from some of the recent Jagged Peak projects.

The short answer is, we'll be implementing our 2019 playbook on Jagged Peak asset base, and it's still all about rate of return. In our view, Jagged Peak's recent projects leaned a little more toward an optimization for NPV. Recent production results from these projects are shown in the bottom left table below and are tracking in line with our risked expectations. Importantly, capital costs in these projects have trended favorably versus our expectations, which speaks to the strong level of engagement the Jagged Peak team exhibited throughout the transition period. Moving forward, we will be shifting to more of a rate-of-return focus on acquired Jagged Peak asset to better align with Parsley's approach. Our teams will continue to utilize a rifle approach when it comes to pack configuration by area, but there are a few overarching design tweaks. First, we expect to use a little more proppant and widen distance between wellbores in all directions, increase vertical density in wider horizontal spacing to be specific. We'll also dial back delineation activity as Jagged Peak's recent projects included some landing zones that tend to be more focused on resource capture as opposed to returns.

The comparison on the bottom right of the page highlights some of the key differences in the three recent Jagged Peak projects and the Parsley's go-forward development approach. We expect that these tweaks in design will shift productivity higher, and leveraging Parsley's scale across the supply chain will grind costs lower. In summary, we're still pushing on that capital efficiency equation, working for more production with less capital.

And now I'll pass it over to Ryan to discuss Parsley's strong financial position and walk through our 2020 outlook.

Ryan Dalton -- Executive Vice President and Chief Financial Officer

Thanks, David. Now on to slide 12. I want to stick with the theme of accountability, remaining front and center for Parsley in 2020. We unveiled the synergy scorecard when we announced the Jagged Peak's transaction last October, and we intend to revisit this slide on a regular basis throughout 2020. We view these tangible synergies as true value enhancers that accrue to all shareholders. So it's only logical to keep shareholders updated. With that in mind, we are already recording some notable progress on our synergy objectives. You can find a handful of updates on the right side of the page, but here are two items, in particular, I want to call attention to. First, I want to highlight the expedient time line from announcement to close less than nine days, which is a testament to the collective efforts of our integration team. Importantly, this gives us a head start on synergy capture and shifting the go-forward development approach that David just spoke to. Secondly, we made it known last October that we believe the Jagged Peak transaction helped accelerate our path to an investment-grade credit profile. In February, Fitch initiated with an investment-grade credit rating, and we refinanced the tranche of our bonds at a 4.125% interest rate. This is a meaningful milestone that lowers our cost of capital as we continue our progress toward a collective investment-grade credit rating.

Turning to slide 13. Our leverage and liquidity profile remains healthy after the close of the all-stock Jagged Peak transaction. Our corporate commitment to free cash flow generation should only improve this position of financial strength. As I have mentioned a minute ago, the credit market has recognized this, allowing us to achieve an $8.5 million of annual interest savings from our recent notes refinancing. Future opportunities to reduce interest expense will only serve to further enhance our free cash flow profile, which in turn removes a little bit of risk from the system. Finally, I will note that Parsley continues to protect its free cash flow through an active hedging strategy with the majority of our forecasted 2020 oil production now hedged. You can view our full hedge position in the supplementary slides.

Turning to slide 14. We are reiterating our 2020 guidance we laid out in late January and reconfirming the priorities of our 2020 budget. Growing free cash flow and improved capital efficiency are once again key objectives. As Matt mentioned earlier, we budget a $50 oil. But if oil prices drop below that, we have commercial flexibility to adjust activity as needed and meet our dividend commitments while protecting the balance sheet. Next, I wanted to provide a little more detail on our activity plans to start the year. During the first quarter, Parsley expected run 15 rigs and five frac spreads and placed 50 gross horizontal wells on production. We are guiding to first quarter oil production of 123,000 to 129,000 barrels per day, which excludes Jagged Peak's production prior to close. To wrap things up, 2019 was a great year for Parsley, and I expect our team to build upon that success in 2020.

With that, we'll be happy to take your questions.

Questions and Answers:

Operator

[Operator Instructions] Our first question comes from the line of John Freeman with Raymond James. Please proceed with your question.

John Freeman -- Raymond James -- Analyst

Good morning guys. When I look at slide eight, where you'll sort of detailed the initial capital efficiency sort of goal of that 8% to 10%, which you'll ended up doing twice as good as and you broke out kind of when you had the initial target how much you originally expected to come from each of the buckets, capex savings, activity mix, optimized completions and then how you ended up doing where the lion share of the upside was due to the capex savings, if we took that same sort of comparison with your 2020 target of 2% to 5%, is there a way to sort of break out kind of what's embedded in that 2% to 5%? Or do we just sort of eyeball sort of the boxes and say, OK, it looks like the capex bucket is something close to 2/3 of that 5% target? Just any color you could provide on that?

Matt Gallagher -- President and Chief Executive Officer

Yes, thanks for your question, John. Dave is going to jump to that in just a minute, but I did want to address one more item before getting to the question. I know this is an earnings call, but we had a big debate last night, a national debate. And I think it's crucial to tell our story because it's a good one. So Parsley was founded in the midst of the financial crisis in 2008 by two people, with 0 production to our name. Through innovation, grit and great people, we now produce enough energy to power the entire population of Las Vegas, which is where the debate was held.

We displaced foreign source energy in that time frame. Instead of handing our energy security back to foreign governments, we should demand higher standards on ESG from our domestic producers, and we should support American jobs. Just wanted to say that, and then we'll get back to our questions. David, do you want to address the capital efficiencies split?

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Sure, John, yes, you mentioned the three buckets that we characterized 2019 with. I would say that the best way to think about that is we're holding the line on the productivity gains that we saw in 2019. Obviously, we'll always be pushing for improving productivity, but I would look at that primarily as driven by improvements in well costs. So the softening of the market for oil field gives us services and our continued bidding process and harnessing the opportunities this market presents is going to make up the lion's share of that 2% to 5% as we see it today.

John Freeman -- Raymond James -- Analyst

Okay. So potentially, a lot of the upside could come from kind of optimizing the JAG assets with some of the changes you mentioned on the pad design on slide 11. I guess, if I just had one follow-up. You mentioned how in the slides that you want to avoid the friction costs. And should we assume that, that kind of means, regardless of, if the oil price is within a reasonable sort of band that you try as best as possible to sort of maintain kind of a steady sort of rig count of the 14 to 15 rigs, the four to five crews as well as sort of the asset mix between Midland and Delaware? Is that what you kind of mean by avoiding kind of the friction costs?

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Yes. I think that's the idea of a stable program is something that we aim for. I think, ultimately, pricing and how it imprints on our program, it's all going to come down to the generation of free cash flow and the dividend, first and foremost; activity comes after that. But we do want to build toward a steady activity profile. We actually take a lot of organizational pride in 2019 and the fact that we didn't have to yank the brake. Due to budget exhaustion, we're able to keep our full activity pace going through the end of the year. Not everybody was able to do that. I think that gives us additional credibility with our service providers.

So that's a 2019 is a case example of why we value that continuity of pace. Now obviously, if we're able to continue to build on efficiency gains, there are ways you can maintain that pace of developing footage with less equipment. So we were able to step down our rig count for that reason. But yes, we don't want to be yanking the brake and slamming the throttle at new transitions due to how we build the budget. So we will continue to focus on that.

Operator

Our next question comes from the line of Scott Hanold with RBC Capital Markets. Please begin with your question.

Scott Hanold -- RBC Capital Markets -- Analyst

Yeah, thanks. Appreciate you guys really being forward-looking with some of those ESG efforts. Matt, can you talk through some of the specifics. I know you gave where you want to be at year-end. But can you give us some specifics on, especially with the Jagged Peak assets. How you get that flaring down? I mean, are there specific projects in the works? And can you give us a set some of the time lines on that? And also as a part of this question, will we get like quarterly updates on where you're at?

Matt Gallagher -- President and Chief Executive Officer

Yes, Scott. This is something we obviously looked at very intently when we went through the data road, and we evaluated these assets of Jagged Peak. We've known these assets for a long time. They're operating right next to our assets. So they have the same opportunity set operationally. It's just a matter of how you go about the business. So we priced that in to our forward-looking budget to do it our way and greatly reduced the amount of flaring. Stephanie will go into some of the details.

Stephanie Reed -- Senior Vice President Corporate Development, Land, and Midstream

Thanks, Matt. Scott, this is Stephane. As Matt mentioned, this has been front and center for our integration team, and prior to close and throughout our review of the Jagged Peak assets, we were able to identify several tactical and actionable path to reducing their flared volumes. And the ultimate driver is insufficient infrastructure on the gas gathering side. So we're working with our G&P partners and our action plan is in full flight across our multidisciplinary integration team.

As Matt mentioned, there were several times throughout 2019, where Jagged Peak was flaring in excess of 25% of their total gas production. In our view, this is unacceptable, and we look forward to executing on this front and reducing these volumes to below that 5% mark on the legacy Jagged peak assets before year ends. And as operators, we feel we have the responsibility to reduce methane emissions across our operational footprint. So we're excited and anxious to elevate these assets to Parsley standard.

Scott Hanold -- RBC Capital Markets -- Analyst

Okay. Are there any other gas gathering projects throughout the year OK. And are there specific gas gathering projects that get you to where you need to go to? Or is that still in the works?

Stephanie Reed -- Senior Vice President Corporate Development, Land, and Midstream

And that's a work in progress, and we do plan to provide, as you mentioned earlier, kind of a quarter-over-quarter update on our progress. But yes, that action plan is in full flight, and it's a mixture of Parsley efforts and our G&P partners on that side. Another thing worth noting is that the any capital spend necessary, albeit small, is already fully included and baked in, in our 2020 capital budget.

Matt Gallagher -- President and Chief Executive Officer

This pipe actively going in the ground right now.

Operator

Our next question comes from the line of Charles Meade with Johnson Rice. Please proceed with your question.

Charles Meade -- Johnson Rice -- Analyst

I wanted to ask a question on flaring, but little bit in a different direction. The Railroad Commission came out with that flaring report a few days back. And it seemed to me that was behind the curve from way a lot of companies, I think, you included are focusing on flaring. So I'm curious what your thoughts are? Do you think that this is a case where the industry is leading the regulators and the Railroad Commission is going to catch up to the way you guys are talking or the way some other companies are talking?

Or alternatively, is this going to be the kind of thing where some companies decide that they're going to really push hard on this ESG and be good corporate citizens, and then other companies just decide, you know what, we're going to check the heat in the public market, and we're just we're not going to spend money to make those reductions. How do you see this playing out on the industry scale?

Matt Gallagher -- President and Chief Executive Officer

Yes, I do think you see a slight divergence in philosophy via some operators. But I do think there's a large group of operators of large names in the Permian that are primarily taking a leadership position, and in any of our operations, we're not going to rely on an external body or a governing body to give us the advice on how to best run a company. We're going to try to be out in front and drive safety standards and ESG standards to a pinnacle. So we it's incumbent on us. We have to take a leadership position as companies, and we have to communicate and educate the country on the steps that we're taking and how it's a beneficial source of energy comparatively, especially to a lot of the international sources of energy.

Charles Meade -- Johnson Rice -- Analyst

Got it. Got it. Thanks for that. This question is perhaps for David. David, I appreciate the what you've laid out here, I believe this slide. I don't know the slide number where you talk about how you're going to develop those JAG assets in the Delaware Basin differently. But can you give us an idea it's slide 11. Can you give us an idea of when we're going to see a pad with those design changes you're talking about? And will it be the kind of a 6- to 8-well pad like you identified earlier in your in your presentations, the kind of the size of the ideal size you're looking at in 2020?

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Yes. Charles, thanks for the question. The short answer is, right now, we do have several pads that are in motion that kind of came in, and we're already in motion or just about to be a motion on close. There are projects late first quarter, early second quarter, where on the drilling side, you're starting to imprint the Parsley philosophy. Now obviously, those have to go through the full cycle of drilling and the completions and then put online. We will have some of our pops this year that are full, sort of, Parsley mentality as characterized on that slide 11, but there are going to be some legacy Jagged Peak design pads. Some of the pads that we're going to be putting forward are going to be larger projects. So we'll see we'll continue to be doing larger projects in the legacy assets on the Delaware side and on the Midland side. But yes, we'll also see some bigger projects on the JAG side or on the legacy JAG assets, maybe not as big on average, but that 6- to 8-well is something that you'll start to see is more of a standard over there, too.

Operator

Our next question comes from the line of Neal Dingman with SunTrust Robinson Humphrey. Please proceed with your question.

Neal Dingman -- SunTrust Robinson Humphrey -- Analyst

My first question is for Matt and David. I was looking at slide 11 on the return of ROR approach. Could you give some details? You talked a bit about this, I know, in the prepared remarks, but just wanted to know based looking at that slide, could you talk maybe more in detail on your comfort level in the area for the vertical and horizontal space? And is there a potential to go down? I know just looking at sort of the pads that you have there, I'm wondering what your comfort level is currently?

Matt Gallagher -- President and Chief Executive Officer

Our historic operations have been based off this 990-foot spacing underpins our forecast and our budget that went into 2019, which we executed well on. And then so we have a large data set and also underpinned our analysis of the acquisition. So really a large body of data set at this spacing. The shift in the spacing test for Jagged Peak were really a 2019 event, and these were their three projects on the shift. So it's really back to a historical playbook across the board. So I feel pretty good about it and have a lot of data behind it.

Neal Dingman -- SunTrust Robinson Humphrey -- Analyst

Makes sense. And then just one last follow-up, Matt. Obviously, great financial position and the investment grade and the whole bid. Could you talk has that changed your thoughts on potentially doing something with the water or mineral businesses here? Or maybe just any details you could give around that for the remainder of the year?

Matt Gallagher -- President and Chief Executive Officer

Yes. I think that definitely goes into the analysis when we kicked off the process in early 2019. We're in a different boat and we exceeded on our forecast across all marks, you take that into play, for sure. But you also look at the structure and the valuation of those entities, there's still tremendous value there. So our focus is 100% on integration. But we do have two very valuable embedded businesses. And over time, we'll evaluate if there's anything opportunistic to look at if it's not burdensome on a controls basis. So I don't think value has ever been a question, It is just keeping something clean and making it clean for the future. So right now, our focus is on integration.

Operator

Our next question comes from the line of Asit Sen with Bank of America Merrill Lynch. Please proceed with your question.

Asit Sen -- Bank of America Merrill Lynch -- Analyst

Thanks. Good morning, Matt, now that you have you're running the combined assets, just wondering if you could help define a decline rate for PDP production for the pro forma entity? And any early thoughts on sustaining capex?

Matt Gallagher -- President and Chief Executive Officer

Yes. Partially, proper came into 2019 about 40%, 41% and exited the year around 37%, 38%. Bringing on these assets, the combined assets entered 2020 at about 40%, and we'd anticipate similar drawdown, a couple of percentage in that base decline throughout 2020. So it really rebooted the 2019 playbook. And then, sorry, was there a second part to that question?

Asit Sen -- Bank of America Merrill Lynch -- Analyst

Any thoughts on sustaining capex.

Matt Gallagher -- President and Chief Executive Officer

It's going to be we'll look at $1.3 billion to $1.4 billion.

Asit Sen -- Bank of America Merrill Lynch -- Analyst

Okay. My follow-up is for David. David, rising LOE has been a trend, at least, among some of the companies that have been reporting, particularly in the Permian. Can you discuss some of the dynamic that's behind us and comment a little bit on how you expect your cadence of LOE to play out over the course of the year?

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Sure, Asit. Yes, for us, we've been a longtime leader in the LOE space and it's something that we think we're as the Permian asset bases age. And as these base production wedges are underpinned by larger bodies of producing wells, there is going to be some upward pressure. Wells need working over and that type of a thing. So we're we did guide to a higher LOE for 2020. Part of it is just that sort of natural forces of aging wells. Additionally, some of the Jagged Peak wells we're bringing in started at a higher level of LOE, but there's a number of things with Jagged Peak team.

For example, there's a substation coming in at Whiskey River, which is going to allow us to have fewer workovers, more stability in our ESPs. We'll continue to manage our artificial lift program that plays into a selection of different artificial lift technologies, chemical program, but we're taking the same kind of structured bidding approach to our LOE goods and services, as we have in the capital program. So we're going to just continue to push on. But yes, over time, there is going to be upward pressure for us as other operators to do our best to manage it.

Operator

Our next question comes from the line of Leo Mariani with KeyBanc. Please proceed with your question.

Leo Mariani -- KeyBanc -- Analyst

Hi guys. Why don't you touch on the $25 million of G&A reductions that you guys expect? Is that something that you think, kind of, will be accomplished pretty fully as we roll into the second half. Just trying to get a sense of when a lot of the integration operation cost, and I'm sure there's some onetime charges, kind of, start to go away in G&A here.

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Yes. Definitely second half weighted, given that we have got employees in transition. And we are closing the -- we plan to close the Denver office in Q2. As we note on slide 12, we are only keeping about 20% of the JAG employees. Many of the others have already completed their transition, and party left the company, and then subleasing efforts are already under way on the Denver office.

Leo Mariani -- KeyBanc -- Analyst

Okay, that's helpful for sure. And I guess, you guys certainly sounded like there were a lot of pops coming on in the first quarter with that 50 wells. So certainly, it looks like a pretty robust activity quarter there. I guess, just kind of looking at the guidance, your first quarter, obviously, is pretty strong, oil growth versus 4Q, and then it kind of looks like it slows down a bit in subsequent quarters. Just trying to get a sense as is a lot of that is just driven by sort of lower pop count in those subsequent quarters? And just trying to get a sense, maybe there's been some conservatism based in just on the JAG production just kind of given the fact that you guys haven't operated until recently.

Matt Gallagher -- President and Chief Executive Officer

Yes, it is kind of a mix, all that you mentioned, the you want to get the assets under your belt before you tighten down any of the forecast. But also if you remember, when we acquired the asset, we wanted to flip that independent asset to free cash flow. So on that on the legacy asset, we did drop a rig in the back half of 2020 in the plan. So you have that going on. You also have a slightly larger pads being delivered throughout the year, which drives pad cost down, even though that is at an upspaced pad spacing, so all that yields a Q1 as the highest growth quarter and then kind of steady moderate growth throughout the remainder of the year, and then we'll be tightening up our analysis throughout the year as we have full quarters of operations on their assets under the belt.

Operator

Our next question comes from the line of Jeanine Wai with Barclays. Please proceed with your question.

Jeanine Wai -- Barclays -- Analyst

Good morning, everyone. Hi, My questions are on 2020 returns and inventory. In your prepared remarks, you mentioned that 2020 activity levels, they need to kind of fall into a tight economic band for the wells. So can you discuss the parameters of this band? And maybe what the hurdle rate is? And as a follow-up to that, how many years of inventory do you have at that same 2020 economic band? And I know in the slides, you gave great detail where you cite 12 to 18 years' inventory in the west and over 20 in the east, but just wondering if you could talk a little bit more specifically about the quality tiering within your areas?

Matt Gallagher -- President and Chief Executive Officer

Sure. I actually think our band is probably a little more resilient than most of the peers out there, given, one, the asset base and the durability of that return profile you mentioned. So we're fairly uniform across the asset base. I'd say between 30% and 60% project level rate of returns, they're between Midland East, Midland West and Delaware Basin. So it's fairly uniform, very robust. You hit these types of returns into most companies' return stack, and they're in the top half. So as we look at potential sensitivities, oil prices going down, we are a corporate breakeven into the low 40s.

But obviously, you'd want to just ensure that free cash flow delivery before that, so you would moderate activity a little bit in the low 40s. And then as oil prices run up, if that were to be the case, we'd allow that extra free cash flow to accrue to the balance sheet and shareholder-friendly initiatives. So pretty wide band there actually of our secured returns here well above our cost of capital.

Jeanine Wai -- Barclays -- Analyst

And for the corporate breakeven in the low 40s, is that a hedge number?

Matt Gallagher -- President and Chief Executive Officer

We know that's looking at unhedged in the out years. We do have a large portion of that hedged. That's unhedged in the out years.

Operator

Our next question comes from the line of Kashy Harrison with Simmons Energy. Please proceed with your question.

Kashy Harrison -- Simmons Energy -- Analyst

Good morning. So first off, Matt, and team, congrats on a solid year and getting to the point where you can support the growing dividend. Matt, as you think through some of shales just general competitive disadvantages, one of the pushbacks around the higher base declines that you talked about, 40%, it sounds like going to 37% next year, and then maybe the low 30s the year after. Just wondering are there any opportunities or technologies that you're looking at that could reduce that base decline faster than what is currently being contemplated by the street?

Matt Gallagher -- President and Chief Executive Officer

Yes, we're always looking at things. And I think what's exciting is when you we rewind 20 or 30 years ago, and the push on the safety front, and people thought it was solely a cost at that time. When in reality, the safety leaders are actually the most profitable companies. I think you're going to see and then there was a tie over to technology with real-time monitoring. I think you're going to see a lot of that in the ESG leadership front. And when you put right minds together and you look at potential reinjection, you look at potential water recycling and all these solutions, you actually start driving moderated or beneficial, maybe unintended consequences.

So you could have moderated declines through some of those efforts, that's one example. But yes, we're always trying to look at recovering the resource as efficiently as possible, and there's a few things in the hopper. But we don't see anything as it sits today, that is a step change, but I think you'll continue to see improvements. And as you mentioned, that decline does moderate a few percentage every year. So that's kind of a built-in tailwind to lower your maintenance capital over time.

Kashy Harrison -- Simmons Energy -- Analyst

That's helpful. And very interesting on the side effects, potential positive side effects of ESG. And then just as my follow-up, I know you raised your dividend a month early. So you're a little bit early to the party. But just wondering, how should we think about your dividend growth rate over the medium term?

Matt Gallagher -- President and Chief Executive Officer

We do look at what's competitive out there, and we see we're competing against multiple industries, not just the energy industry. So everyone is looking at that S&P 500, 2% yield. And we do see moderate growth in the dividend annually for a long time to come as a corporate objective. So those are the two things that are guiding the dividend growth annually.

Operator

Our next question comes from the line of Mike Scialla with Stifel. Please proceed with your question.

Mike Scialla -- Stifel -- Analyst

Hi, good morning. Ryan alluded to it in his prepared remarks. But and I know you're well hedged this year, but wanted to see if you could give any details on how the plan changes if oil averages somewhere in the low $40s rather than the $50 or above?

Ryan Dalton -- Executive Vice President and Chief Financial Officer

As far as our hedge strategy, I don't think it really changes. We haven't really started on 2021 yet. We will take small bites of it as we have historically and try to be opportunistic if we get small run-ups, trying to add in, at least have a baseline above $50, but along the lines that we have in 2020, so we can feel comfortable budgeting at $50.

Matt Gallagher -- President and Chief Executive Officer

And then running the business at $40 similar to the dividend strategy of growing over time, we need to grow free cash flow over time. So that would sacrifice activity levels below $40 to generate growing free cash flow and consistent free cash flow over time. And I think you need to listen to market conditions to drive the need for additional growth there.

Mike Scialla -- Stifel -- Analyst

Okay. And Matt, I was interested in your comments about the accomplishments of the company from its inception as start-up with no production to becoming a significant source of energy for the country, and obviously, your focus on ESG initiatives along the way. It sounds like you have a lot to say to people that believe the industry should go away. Just wondering if there's anything more you would add there? And any change to your plans if we got a new administration that shared that belief.

Matt Gallagher -- President and Chief Executive Officer

Well, I think first and foremost, we just need to educate based off hard numbers and be a part of the solution. I think we're extremely supportive, renewables and penetration of that, we want to compete as a business. So I think for a long time, our business assumed we're in a commodity business, but commodities don't have any competition. And we do have competition now. So we need to put our best foot forward on operating as efficiently as possible on the products with minimal impact on our footprint as possible. So there's a good story to tell for the American independent. And if anybody should be providing this energy need, it should be the American independent due to our social standards, our labor laws, the high level that we operate at across the country and supporting American jobs.

All along the meantime, we need to be cognizant about our footprint, and we need to look to alternatives and see how we can actually bring our top talent, some of the best engineers and scientists, geoscientists on the planet as an industry, let's bring those ideas to the forefront, let's invest and partner in future solutions. So yes, we have a lot to say. We're biased on how we can fit into the solution, and I think it's probably pretty dangerous for the American consumer to talk about these light switch approaches where you just flip everything off. There's some serious unintended consequences that will probably hurt the people that they think they're helping the most.

Operator

[Operator Instructions] Our next question comes from the line of Gabe Daoud with Cowen. Please proceed with your question.

Gabe Daoud -- Cowen -- Analyst

Hey, good morning, everyone. Matt, I was just wondering, I guess, about your views on the mineral position given slide 21 and all the good detail there. Just curious, you have the chart that shows the public mineral comp. So just curious if there's any thoughts on potentially realizing some of that value in 2020.

Matt Gallagher -- President and Chief Executive Officer

No. That's something we looked at in early 2019 as we assessed which business to market. We did a light marketing process of our water business. And I again explained that earlier that through this integration process, we want to integrate JAG's assets. As it sits, these extremely valuable businesses are sitting, making a very clean high-margin company on a go-forward basis for fee proper. So ideally, that's the way it stays. It's a lever that's always there able to analyze with no plans in 2020, focusing on delivering this free cash flow organically and a long-term sustainable business models without any shots in the arm. But over time, it's always a lever to assist.

Operator

Our next question comes from the line of Joe Allman with Baird. Please proceed with your question.

Joe Allman -- Baird -- Analyst

Thank you and thanks for all the comments, including the tribute to Clayton Williams, so it's very appropriate. My one question is are you planning the trial? Or have you tried the flowback technique similar to how Felix has done in the Delaware basin? And would it be applicable in the Midland basin as well?

Matt Gallagher -- President and Chief Executive Officer

Joe, we've tried a variety of flowback techniques. We've also we've got established line communication with several of our neighboring operators. So we do think we have a pretty good sense of the type of flowback strategy and approach to take in different areas. I wouldn't expect to see us getting more conservative with our flowback approach. So again, it's like just like the way we allocate capital and configure pads, it's a rifle approach. So we take into account downhole pressures and that type of variable, but I wouldn't expect us to start getting more conservative with our flowbacks.

Operator

Our next question comes from the line of Brian Singer with Goldman Sachs. Please proceed with your question.

Brian Singer -- Goldman Sachs. -- Analyst

Thank you. Good morning. You talked about the water business a bit. And one of the things, I think, you highlighted in the presentation is the rising contribution, though, at a very low base from the third parties. Can you talk about what the opportunity set is to add third-party volumes where capacity and capacity utilization is and what impact that could have on profitability and cash flow?

Stephanie Reed -- Senior Vice President Corporate Development, Land, and Midstream

Brian, sure, this is Stephanie. As you stated, we're starting from a relatively small base here. So the 50% increase from the first half of 2019 to the second half of 2019, it was not a large volume. And there's definitely potential here. Having stood up our water-focused management team, it will only increase the likelihood of that improved system utilization coming to fruition on both the freshwater and produced water side. So there's definitely potential. And that said, Parsley will remain a priority on the system and ensuring that we have ample takeaway for our produced water.

Operator

Thank you. Our final question comes from the line of Gail Nicholson with Stephens. Please proceed with your question.

Gail Nicholson -- Stephens -- Analyst

Good morning, Thanks for fitting in, I was just kind of curious on how you guys are thinking about the appropriate amount of exposure to Gulf Coast pricing versus Midland pricing and how that where you currently sit in your portfolio? And how that potentially could change over time?

Stephanie Reed -- Senior Vice President Corporate Development, Land, and Midstream

Sure, Gail. Hi, This is Stephanie. In 2019, our exposure was more weighted to Midland pricing. So we had about 70% of our volumes exposed to Midland, 30% to MEH. In 2020, we'll actually see that pendulum swing. We want some exposure to Midland. We think exposure to Midland is going to be really good in 2020. That said, we'll have more exposure to what we call waterborne indexes. So it's a mixture of MEH and Brent. But the full year 2020, we've seen more the kind of a 50-50 split, maybe slightly more weighted toward the waterborne indexes.

Operator

[Operator Closing Remarks]

Duration: 57 minutes

Call participants:

Kyle Rhodes -- Vice President Investor Relations

Matt Gallagher -- President and Chief Executive Officer

David Dell'Osso -- Executive Vice President and Chief Operating Officer

Ryan Dalton -- Executive Vice President and Chief Financial Officer

Stephanie Reed -- Senior Vice President Corporate Development, Land, and Midstream

John Freeman -- Raymond James -- Analyst

Scott Hanold -- RBC Capital Markets -- Analyst

Charles Meade -- Johnson Rice -- Analyst

Neal Dingman -- SunTrust Robinson Humphrey -- Analyst

Asit Sen -- Bank of America Merrill Lynch -- Analyst

Leo Mariani -- KeyBanc -- Analyst

Jeanine Wai -- Barclays -- Analyst

Kashy Harrison -- Simmons Energy -- Analyst

Mike Scialla -- Stifel -- Analyst

Gabe Daoud -- Cowen -- Analyst

Joe Allman -- Baird -- Analyst

Brian Singer -- Goldman Sachs. -- Analyst

Gail Nicholson -- Stephens -- Analyst

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