Laredo Petroleum (LPI) Q1 2022 Earnings Call Transcript

Laredo Petroleum (LPI -0.89%)
Q1 2022 Earnings Call
May 05, 2022, 8:30 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the Laredo Petroleum, Inc. first quarter 2022 earnings conference call. My name is Amanda, and I will be your operator for today. [Operator instructions] As a reminder, this conference is being recorded for replay purposes.

It is now my pleasure to introduce Mr. Ron Hagood, vice president, investor relations. You may proceed, sir.

Ron Hagood -- Vice President, Investor Relations

Thank you, and good morning. Joining me today are Jason Pigott, president and chief executive officer; Karen Chandler, senior vice president and chief operating officer; and Bryan Lemmerman, senior vice president and chief financial officer; as well as additional members of our management team. During today's call, we will be making forward-looking statements. These statements, including those describing our beliefs, goals, expectations, forecasts and assumptions, are intended to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.

Our actual results may differ from these forward-looking statements for a variety of reasons, many of which are beyond our control. In addition, we will be making reference to non-GAAP financial measures. Reconciliations to GAAP financial measures are included in the press release and presentation we issued yesterday that detail our financial and operating results for first quarter 2022. The press release and presentation can be accessed on our website at www.laredopetro.com.

I'll turn the call over to Jason Pigott, president and chief executive officer.

Jason Pigott -- President and Chief Executive Officer

Thank you, Ron. Good morning, and thank you for joining us today for a discussion of our first-quarter results. We performed extremely well in the first quarter, continuing the momentum we generated in 2021. First, total oil and total production and capital were in line with guidance as the teams continued to execute our investments in Howard and Western Glasscock counties.

Second, we generated free cash flow of $23 million and consolidated EBITDAX of $222 million. Third, we reduced leverage from 2.1 times debt to EBITDA at the end of the year to 1.9x at the end of the first quarter. We also continue to move forward on our initiative to achieve responsibly sourced gas and oil designation for a portion of our production, which was awarded in April. Laredo now has 31,500 BOA per day attributed to a gold rating, which is required for oil to be considered responsibly sourced.

We are the first Permian operator to receive Trust well certifications. In addition to delivering on our projections in the first quarter, we have positioned ourselves to further deliver on our value creation strategy for the remainder of 2022. We materially increased liquidity as the value of our assets supported a 38% increase in our elected commitment as part of the RBL redetermination. We worked with our service partners to lock in 85% of expected drilling, completions, equipment and facility spend for the remainder of the year, and we anticipate achieving our leverage target of 1.0 times by the first quarter of 2023 at current commodity prices.

These successes support the objectives of our near-term strategy to utilize free cash flow to pay down $300 million of debt in 2022, equivalent to approximately $17 per share on our current outstanding share count. This amount of debt repayment would achieve a leverage target of 1.5x by early third quarter and 1.0 times by the first quarter 2023. Our commitment to leverage reduction supports the opportunity to institute a program to return cash to shareholders by early 2023. Body prices have been exceptionally strong and the industry is experiencing significant inflationary headwinds.

We continue to drive efficiencies to offset the inflationary pressures and secure longer-term pricing where we can. Work with the team has enabled us to maintain our projection of greater than $300 million of free cash flow in 2022 despite increasing our capital budget to approximately $550 million and seeing our operating cost increase by approximately $1 per BOE. We remain intensely focused on executing on our strategy to accelerate value creation for our shareholders and delivering our objectives in 2022. I'll now have Karen provide an operations update.

Karen Chandler -- Senior Vice President and Chief Operations Officer

Thank you, Jason. As you can see from our first-quarter results, our operating teams performed very well again this quarter. Our production, capital expenditures and number of wells completed and turned in line are all in line with guidance. We did see a couple of days of weather disruptions early in the quarter, but the overall impact was relatively small, decreasing quarterly oil production by about 150 barrels of oil per day.

We continue to see solid well performance for both our base and new production in Howard and Western Glasscock counties. We are especially encouraged with the production from the two Middle Spraberry appraisal wells completed late last year in the North Howard area. The performance of these two wells strongly supports the assumptions we made when adding Middle Spraberry locations to our Howard County inventory. Based on the strong performance of these two wells and their strong economics, we've included eight Middle Spraberry wells into our 2022 development plan.

These wells will be incorporated into our current activity levels of two rigs and one frac crew and are not being added as additional activity. We are simply adding wells to currently planned well packages in North Howard to benefit from the efficiencies inherent in larger packages. There are no changes to our spud or completion counts for the year. During the first quarter, LOE was higher than we anticipated, reflecting both inflation and additional costs associated with integration of our recently acquired properties.

A majority of the increase was associated with artificial lift and flowback management on newer wells in Howard and Western Glasscock counties. These included higher generator and fuel costs associated with running our ESPs on new wells in Howard County, using additional flowback crews on older Sabalo batteries with limited automation and higher compression and fuel gas costs for running gas lift on new wells in Western Glasscock. Other cost pressures impacting LOE include higher rates for compression in VRU rentals, workover rigs, diesel and power. We are currently working to manage costs associated with power by switching to LNG generator systems in Howard County and reallocating facilities and artificial lift to high line power as soon as it is available in our operating areas.

We also expect to see cost benefits from the work we are doing to retrofit older batteries and consolidate production to new Laredo built facilities in the acquisition areas. With our cost mitigation efforts, we expect to hold total LOE expense relatively flat for the remainder of the year. This is reflected in our second quarter 2022 LOE guidance of $5.35 per BOE, flat to first quarter. Capital expenditures for the first quarter were $171 million, in line with guidance, reflecting the work the supply chain team has done to lock in as much pricing and supply required goods and services as possible.

As we continue to mitigate inflationary pressures impacting the industry, we have locked in second half pricing for about 85% of our operated capital expenditures for the remainder of the year, including completion services, tubulars and sand. This will significantly reduce uncertainty in the remainder of our 2022 capital expenditures and ensures we have access to equipment and crews necessary to execute on our development program. We have adjusted our 2022 capital budget to $550 million, up about 6%. This updated capital budget fully incorporates the inflation that we have seen to date, contracted second half pricing and expected inflation on any areas that are not yet fully locked in for the remainder of the year.

Importantly, with the strength of commodity prices and our strong margins, even with the 6% increase in our capital budget, our cash flow forecast for the year remains unchanged. I will now turn the call over to Bryan for a financial update.

Bryan Lemmerman -- Senior Vice President and Chief Financial Officer

Thank you, Karen. During the first quarter, we continued to make progress on our overarching financial goal of generating free cash flow, reducing leverage and ultimately positioning the company to return cash to shareholders in early 2023. As Karen described, inflationary pressures have been impacting the industry and have pushed our operating expenses and capital expenditures above our original expectations for 2022. We are fortunate that commodity price strength and efficiencies at the field level have fully offset these inflationary pressures as our free cash flow outlook for the year remains unchanged at greater than $300 million in the current price environment.

Our investments this year, by design, were front-end loaded, so we expect our free cash flow to increase significantly throughout the remainder of the year as quarterly capital investment levels moderate. Our primary focus for the use of our free cash flow remains debt reduction. Previously stated leverage goal of 1.5 times net debt to EBITDAX should be achieved during the third quarter. And at current commodity prices, we expect that ratio to decrease rapidly and to be at 1x by the end of the first quarter of 2023.

Our plan is still to utilize our free cash flow to reduce debt by $300 million by year-end 2022. Our recently redetermined RBL demonstrates our bank group's confidence in our ability to deliver on our goals. Besides increasing our borrowing base to $1.25 billion and our elected commitment to $1 billion, they built in additional flexibility for us to determine how we pay down debt. Through the end of this year, as long as our net debt-to-EBITDAX ratio is below 2.5 times, we have the flexibility to utilize $250 million of our elected commitment to purchase our call term debt.

The structure provides us with maximum flexibility to determine the best course for repaying debt as we generate cash throughout the rest of this year. As we achieve our debt repayment and leverage goals, we expect to be in a position to return capital to shareholders in early 2023. With that, I will now turn the call over to Jason for closing comments.

Jason Pigott -- President and Chief Executive Officer

Results in the first quarter are a reflection of our accomplishments over the past three years. The outstanding returns on our wells in Howard and Western Glasscock Counties powered our free cash flow generation and deleveraging. The remainder of 2022 will further accelerate this trend as we pursue our goals of $300 million in debt reduction and leverage at or below 1.0 times by the first quarter of 2023. We believe paying down debt throughout 2022, deliver substantial value for our shareholders and positions us to begin substantially returning capital to shareholders in early 2023.

Operator, please open the line for questions.

Questions & Answers:

Operator

[Operator instructions] Our first question is from Derrick Whitfield from Stifel.

Derrick Whitfield -- Stifel Financial Corp. -- Analyst

With my first question, I wanted to focus on your 2022 plan and your confidence in executing against it. In consideration of the operating environment and tightness in services, supplies and labor, have there been or do you expect any business impacts beyond inflation?

Jason Pigott -- President and Chief Executive Officer

Great question, Derek. I think we, again, feel really confident with locking in the capital where we did right now. Again, it was a factor there or an uncertainty for the future. So again, locking in those completion services and some of the other items is going to be good for us.

As far as the other factors, I'm really excited about the wells that we've got coming online in Howard County. We've got our first 15,000-foot wells coming online. We were trying some new stimulation techniques that appear to be doing well. Those wells are just like really early in their flowback.

So we look forward to talking more about it in probably at the next quarter, but feel really good about where the company is right now. And I think the steps we took on the capital front mitigate a lot of the risk that we would face for the remainder of the year.

Operator

Our next question is from the line of John Daniel with Daniel Energy Partners.

John Daniel -- Daniel Energy Partners -- Analyst

I guess this one would be for Karen. Can you just walk us through what the opportunity set is and impacts to production could be with just sort of a push to greater workover activity?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. So clearly, as the commodity price has moved around, we keep a really close eye on what we're doing from a workover standpoint on all of our operations. And we've talked about it in the past. I mean we really look at it on an ongoing basis in any environment to make sure that what we talk about is no one left behind, that we're looking at each individual well and making the right economic decision for that well.

So as commodity prices have moved around, it really hasn't impacted our workover activity as much as you might expect just because we have that ongoing program in place.

John Daniel -- Daniel Energy Partners -- Analyst

OK. But when you look at like the new well completion designs today versus maybe four to five years ago, just throwing that out, do you -- is there a material uplift at all when you go back into the sort of the original horizontal wells that were drilled. And when do you do that?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. So in general, we had done very little workover activity in recent horizontal wells. So recent in the last four -- wells that have been drilled in the last four or five years. That's very unusual activity for us.

There have been a few instances, but it's on something operationally that's very different than the standard well that we've completed.

John Daniel -- Daniel Energy Partners -- Analyst

OK. Great. And then just one final one for me. As you all look out to 2023, and I know we're still a ways away, at what point do you start reaching out to your contractors to negotiate pricing or lock that? And is that too early?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. So as we've talked about a lot -- as we were talking about in the last call, locking in the second half, I really think it's a call on a service-by-service basis. What we've been doing is in a very rigorous way, the supply chain team has been evaluating both the industry and us specifically as far as services and what our expectations are with cost trends and then also availability of services. I mean, Jason pointed out that locking in second half, we believe really gives us a lot more certainty, really reduces risk on cost, but it also gives us more certainty and reduces risk around service availability.

So on a case-by-case basis, depending on services, our goal is definitely to get 2022 as locked up as possible to give us certainty around the capital budget that we're executing on. There are services that we've started to talk about 2023, but I think it's just a case-by-case basis as we see those services and expectations change.

Jason Pigott -- President and Chief Executive Officer

Yes. Just getting an understanding of oil so much volatility in oil price, you don't want to be in a situation where you've locked in services at a high price and then oil dropped. So I think we'll just -- as we get closer to next year, we'll move that.

Operator

Our next question is from the line of Jordan Stuart with GoldenTree.

Jordan Stuart -- GoldenTree Asset Management -- Analyst

Just first, I would love to get an update on the eastern acreage block. Obviously, with the move in gas prices, I would assume these continue to look more and more attractive, but just any more color you guys could provide on that inventory.

Jason Pigott -- President and Chief Executive Officer

Yes. No. It's -- again, the gas prices are definitely helping out there. When we look at economics, though, the Howard County is so good that they still fall behind that sequentially.

So our economic priority is the Howard County, Western Glasscock and then the core assets. But they -- again, they do look better with higher gas prices. Western Glasscock is also a little bit gassier than Howard is. So it's supported as well.

But we really try to drill our best economics first and right now, that's Howard County. We're drilling some really good wells out there right now.

Jordan Stuart -- GoldenTree Asset Management -- Analyst

Awesome. And then maybe just in terms of M&A, just curious the opportunity set that's out there, if you guys are kind of continuing to explore additional opportunities. Obviously, the bid ask is kind of wide according to others. But just curious to get more color on that front, how you're thinking about and how any deal could potentially be financed?

Jason Pigott -- President and Chief Executive Officer

I'll just start with the opportunity set and then Bryan can speak on how we might finance it. But we continue to want to grow and achieve scale as a company. We also want to delever at the same time. So anything that we would look at has to delever us in line with what we're doing today.

A lot of the packages that are out there that we've looked at have been a little bit more PDP heavy. So those don't really fit what we're looking at as a company. We want to build -- continue to build a robust inventory of wells with kind of lower break evens that can survive a downturn. So that's the priority for us, and there just haven't been a lot of those on the market right now.

With respect to financing, I'll turn it over to Bryan.

Bryan Lemmerman -- Senior Vice President and Chief Financial Officer

Yes. I think Jason hit on the fact that it would still need to be deleveraging along the same lines that we are projecting today. So as we look at those opportunities, you're right, the bid ask are quite wide right now. And then I think the type of assets that are out there year to date haven't been what we're looking for.

But anything that we do would -- it would be financed in a way that we would still achieve our debt -- our leverage reduction goals materially on the same timeline that we've laid out here today. So that's how we look at it. As Jason said, debt reduction is primary and then you get to return on capital at some point. And the wildcard is when you find an opportunity on the acquisition side to do, it needs to not derail those goals.

So that's how we're approaching it this year.

Jordan Stuart -- GoldenTree Asset Management -- Analyst

Awesome. That's helpful. And then last one for me. It sounds like you guys have done a great job locking in your budget for the second half of the year, even though there's this, I guess, 15% variable.

Just curious to dig in a little bit more, is there any potential for that $550 million number to be biased higher at any point? Or we feel pretty good about that number now?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. So what we've incorporated in here again is service cost as we've seen inflation as we've locked those in. So what's remaining -- the 85% is activity forward for the year. So with the activity that's been completed today, we're over 90% kind of locked in on the service side.

So what's in the remaining primarily are areas around chemicals and diesel, very difficult to lock those in. And clearly, there could be some float in those components. So areas that even though we haven't fully locked in that we think that we believe directionally where market may go, we've incorporated that into the budget. So we feel really good about this budget.

We think it's very tight. It still will be impacted by changes in, for example, diesel being the most impactful if we're seeing significant changes there. And clearly, that could flow to a positive or to the negative depending on what commodity prices are doing. The only other add that I would make to that is the activity levels in this budget are exactly the same as in the original budget.

So we do not plan on increasing activity. And we talked about kind of what the rest of the outlook looks like is based on our two rigs, one frac crew. But we do focus on maintaining that activity with only having the two rigs and the one crew running. So if we see continued performance improvement activity being pulled into the year, there may be a little bit of that as it continues through the year and really work on getting our performance improvement into the drilling completions program.

Jordan Stuart -- GoldenTree Asset Management -- Analyst

Awesome. That makes sense. I guess just in terms of the inflation assumption obviously, harder to lock in the chems and diesel pricing, it sounds like. But what is the underlying assumption? Is it 10%, 15%? Just how are you guys thinking about that? Just so I could have kind of a ballpark?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. So on services, I'll give you one additional example. So out of the two rigs that we're running right now, we will be contracting the second ? one of the two rigs. We're working on a contract for second half of the year, and that's in the 15%.

But we do feel like we have a very clear line of sight overall on where pricing will be and have that incorporated, we feel fully into this budget. So any areas like that, that we have some line of sight on we have incorporated into the budget. With diesel, for example, it's going to be where the market goes.

Operator

Our next question is from Joseph McKay with Wells Fargo.

Joseph McKay -- Wells Fargo Securities -- Analyst

Sorry, I hopped on a little bit late, so I apologize if this was covered, but I was just wondering if you could talk about kind of the Howard County well performance and kind of the impact given where 1Q actual shook out in 2Q guidance, just kind of what your expectations are for the trajectory of volumes for the balance of the year.

Unknown speaker

Joseph, this is [Inaudible]. So in terms of the well performance in Howard County, we are still really encouraged by what we're seeing from our Howard County North acreage, both the Wolfcamp and Lower Spraberry really are performing well for us up there. And we've been especially encouraged by our two Middle Spraberry wells, which we've highlighted in the deck. Those have really surprised us to the upside relative to our expectations.

And as a result, we've added eight of those wells to our development program in 2022. In Howard County Central, we're still seeing consistent behavior in terms of the wider spacing packages outperforming. And so we feel like we've got the spacing kind of locked down there in a way that's attractive for us. And so we're going to continue on that path.

Joseph McKay -- Wells Fargo Securities -- Analyst

Got it. That's very helpful. My other questions were asked, so I'll turn it back over to you.

Operator

Our next question is from Nicholas Pope from Seaport Research.

Nicholas Pope -- Seaport Research Partners -- Analyst

I was hoping you could talk a little bit on these longer laterals, you're focusing on, you're going to -- you mentioned a 15,000-foot lateral is going to be coming soon. Should we think about those as like pure scale ups in terms of cost and performance. And I guess, really, maybe you can talk a little bit about like what, I guess, the drive is for these longer laterals. Is there a limit that you guys think you could push toward? Or is it purely geometry of acreage?

Karen Chandler -- Senior Vice President and Chief Operations Officer

Yes. Yes. I'll talk a little bit about cost and performance. So we are drilling the first 15,000-foot lateral lengths that we've done in some time.

But as a company, we've actually drove a number of wells at those lateral lengths. As we transition to more of the North Howard area, we're integrating in more 15,000-foot laterals into the program. One of the well packages that we brought on this quarter, we -- well, first quarter, included the first 15,000-foot lateral. So from an operations standpoint, everything has gone smooth.

We're just finishing up operations, completion operations on the second set, 15,000-foot laterals for the year. There's certainly cost savings on a per foot basis. So that's really the driver for drilling the longer laterals, and we're seeing that work into our overall program on a cost basis based on the capital numbers that have been provided. And then from a production standpoint, I mean, we're assuming that we'll see comparable performance on a per foot basis and getting the first initial results in on the first 15,000-foot laterals.

From the standpoint of how far can you go? Some operators are pushing further than 15. We do not think that's a technical limit. But overall, it's really dependent on how the acreage position lays out as much as anything. And I'll give an example there.

In Central Howard, we went into operations with primarily 10,000-foot laterals because the acreage is lay out perfectly for that. As we move to North Howard, it's a little bit blockier and it's given us opportunities to extend those lateral lengths. And so 15 again, is a good layout for the development from that standpoint.

Nicholas Pope -- Seaport Research Partners -- Analyst

Got it. I appreciate it. That's very helpful. Additionally, can you talk about -- I think in the fourth quarter, you guys had a handful of wells in Glasscock County.

And obviously, it's not the focus this year, the drilling program. As you kind of get more data on the Wolfcamp D and some of these newer formations that you're targeting, where do you think that sits kind of in the hierarchy of wells of kind of the total company? Like how has performance kind of been on some -- I know you have the slides here, but where do you think kind of the Wolfcamp D maybe specifically slots into the hierarchy?

Jason Pigott -- President and Chief Executive Officer

Yes. I think it's kind of like I said, we're -- if you look at our -- we've got it in the slide deck kind of where we're drilling. So we're going to the Northern Howard area. It's -- again, it's got the best economics in the company.

A lot of that, again, is Spraberry performance is much stronger in the North. So the whole package just has great economics all around. And as we mentioned, we're even flowing in some of these Middle Spraberry wells because they performed so well. So we'll drill up Howard County, and then we go to Western Glasscock and we will codevelop it with the Wolfcamp D and all the other formations down there.

So that's kind of our plan is to fully drill up North Howard. Sometimes we've got some lease obligations, and we may need to go down and put a few wells down here and there, but it causes us to move around, but the priority is drill Northern Howard then go to Western Glasscock. I was saying, the performance is good. We have it updated in our slide deck.

So those wells are performing as expected, excited about the Wolfcamp D. It's just the economics in Northern Howard are so good that it's hard to do anything else but those.

Operator

We have a follow-up from the line of Derrick Whitfield from Stifel.

Derrick Whitfield -- Stifel Financial Corp. -- Analyst

Thanks, and apologies for being disconnected earlier. Have you guys touched on Project Canary and Q&A?

Jason Pigott -- President and Chief Executive Officer

Not yet. We've got David Farris, our chief sustainability officer, here to talk a little bit about it though.

Derrick Whitfield -- Stifel Financial Corp. -- Analyst

I was just going to ask if -- certainly, while I'm asking you to take a position on whether a methane fee will pass in legislation, could you speak to the benefits of the certification and if you think it will improve downstream offtake options and potentially realizations based on your industry discussions?

David Ferris -- Vice President and Chief Sustainability Officer

Sure. And good question. I think the approach that we're taking is this is the right thing to do to meet our 2025 emissions reduction targets that we've put out there. So understanding the emissions on locations, mitigating those emissions events in line with trying to reduce our overall emissions.

That's just the right thing to do, and we're focused on that in particular. We do think that there is and have seen historically opportunities in the gas market for small premiums to be paid. You're seeing certain industries, certain countries, be more interested in acquiring certified responsibly sourced gas. So we think from a gas perspective, that market is a bit more mature and there are opportunities there.

From the oil side, that market, we're seeing that emerge. We are the first Permian operator to certify our production. And so we believe we're kind of on the leading edge of that right now. And so we are seeing early indication of interest on additional opportunities on the oil side for small premiums as well.

Operator

Thank you. I would now like to turn the call back over to Mr. Ron Hagood for closing remarks.

Ron Hagood -- Vice President, Investor Relations

Thank you for joining us for our update call today. We appreciate your interest in Laredo. This now concludes our call. Have a great morning.

Operator

[Operator signoff]

Duration: 33 minutes

Call participants:

Ron Hagood -- Vice President, Investor Relations

Jason Pigott -- President and Chief Executive Officer

Karen Chandler -- Senior Vice President and Chief Operations Officer

Bryan Lemmerman -- Senior Vice President and Chief Financial Officer

Derrick Whitfield -- Stifel Financial Corp. -- Analyst

John Daniel -- Daniel Energy Partners -- Analyst

Jordan Stuart -- GoldenTree Asset Management -- Analyst

Joseph McKay -- Wells Fargo Securities -- Analyst

Unknown speaker

Nicholas Pope -- Seaport Research Partners -- Analyst

David Ferris -- Vice President and Chief Sustainability Officer

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