Exploration & Production | Quarterly / Earnings Reports | Production | Third Quarter (3Q) Update
CONSOL Touts Break-Out in Utica Volumes; Cuts Marcellus Costs
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CONSOL Energy Inc. has reported its third quarter 2014 update.
CONSOL's E&P Division had another outstanding quarter by achieving record production of 64.9 Bcfe, or an increase of 41% from the 46.1 Bcfe produced in the year-earlier quarter. Because well results are exceeding expectations, CONSOL Energy is raising its 2014 E&P production guidance range to 235 - 240 Bcfe from earlier guidance of 225 - 235 Bcfe. To achieve the high end of the new range, the company will need to produce approximately 75 Bcfe in the fourth quarter.
Nicholas J. DeIuliis, president and CEO, commented: "Our record gas production in the third quarter represents sequential growth of 25%, which is the largest in company history. Our focus continues to be on execution: production growth, lowering costs, and maximizing rates of return. These factors, along with recent transactions such as the IPO of CONE Midstream Partners LP, will continue to drive CONSOL Energy's net asset value (NAV) per share growth."
Marcellus Shale
Marcellus Shale production volumes in the 2014 third quarter were 30.7 Bcfe, or 76% higher than the 17.4 Bcfe produced in the 2013 third quarter. During 2014, rapidly increasing volumes have contributed to lower unit costs. Despite processing a greater volume of NGLs, Marcellus Shale costs were $2.69 per Mcfe in the just-ended quarter, which is a $0.25 per Mcfe improvement from the second quarter of 2014 costs of $2.94 per Mcfe. When backing out depreciation, depletion, and amortization (DD&A) in the 2014 third quarter of $1.11 per Mcfe, the company achieved all-in cash costs of only $1.58 per Mcfe in the Marcellus Shale.
Utica Shale
CONSOL Energy also achieved a break-out in Utica Shale volumes, as the completion of third-party infrastructure enabled the company to produce from completed pads in Noble County, Ohio. In the 2014 third quarter, Utica Shale production volumes were 6.8 Bcfe, up from 0.2 Bcfe in the year-earlier quarter. As impressive as the volumes were, the financial results were boosted by higher-value condensate and NGL production. Utica Shale condensate and NGL production in the quarter was 0.5 Bcfe and 2.0 Bcfe, respectively, up from negligible amounts in the year-earlier quarter.
During the quarter, CONSOL, along with its joint venture partner, Noble Energy, successfully launched CONE Midstream Partners LP, a Master Limited Partnership (MLP), which will own, operate, develop and acquire natural gas gathering and other midstream energy assets to service rapidly growing production in the Marcellus Shale in Pennsylvania and West Virginia. CONE Midstream Partners, which trades on the NYSE under the ticker CNNX, launched its initial public offering on September 25, 2014 and raised proceeds of $414 million, of which $204 million was returned to CONSOL.
E&P Third Quarter Summary
The tables below summarize the quarterly comparison of key metrics for the E&P Division. Revenue and production both increased by over 30% in the just-ended quarter, when compared to the year-earlier quarter. These metrics, when combined with much lower unit costs, enabled the E&P Division to post net income of $24.4 million in the current quarter, compared to a net loss of $0.6 million in the year-earlier quarter.
E&P Division capital expenditures in the quarter set a record at $281.6 million, as the company increased drilling and completion investments to achieve its production growth targets. CONSOL's quarterly capital expenditures were net of $77.1 million of drilling carry from its joint venture partner in the Marcellus Shale and $41.1 million of carry from its joint venture partner in the Utica Shale.
During the third quarter, CONSOL signed a letter of intent to sell a 50% interest in the Utica formation in the Moundsville area of Marshall County, West Virginia, to its joint venture partner, Noble Energy. The approximately 3,000-acre position associated with the transaction, combined with slightly more than 1,000 already jointly held Utica acres, will form an Area of Mutual Interest (AMI). The AMI should hold at least 25 Utica laterals and will use a mix of existing infrastructure and new Utica pads. The transaction is expected to close in the fourth quarter of 2014, and the first well is planned for spud late within the same quarter. This AMI provides an opportunity to quickly ramp this stacked pay potential area by taking advantage of significant development that is built, or underway, in the Noble Energy-operated Moundsville field.
The average sales price per Mcfe within the E&P Division was impaired in the just-ended quarter, when compared to the year-earlier quarter due in part to widening regional basis differentials. Offsetting decreases to gas prices is a greater proportion of liquids production, which receives higher unit pricing.
The average sales price of $3.97 per Mcfe, when combined with declining unit costs of $3.12 per Mcfe, resulted in a margin of $0.85 per Mcfe. This was $0.12 per Mcfe lower than the $0.97 per Mcfe margin achieved in the year-earlier quarter, as revenue from surging liquids production helped to mostly offset weaker regional basis. Net income attributable to CONSOL shareholders from the E&P Division was $24.4 million in the 2014 third quarter, compared to a loss of $0.6 million in the year-earlier quarter.
Unit costs were improved in the just-ended quarter, as fixed costs, such as direct administration, were spread over higher production volumes. Unit costs were also improved, as low-cost Marcellus Shale production represented a much higher proportion of total production.
All-in unit costs in the Marcellus Shale category were $2.69 per Mcfe in the just-ended quarter, or an increase of $0.14 per Mcfe from the $2.55 per Mcfe in the year-earlier quarter. Despite Marcellus Shale volumes increasing 76%, when compared to the year-earlier quarter, unit costs were impaired mainly due to increases in gathering and transportation costs from increased fees related to liquids gas processing.
E&P Marketing and Transportation Update
Third quarter 2014 average dry gas prices, including the impact of our hedging program and net of basis, averaged $3.60 per Mcf. CONSOL's expansion into wet gas production areas provided a liquids value uplift of $0.37 per Mcfe, bringing the overall average sales price to $3.97 per Mcfe. Third quarter 2014 liquids volumes of 6.3 Bcfe were over six times greater than the 2013 third quarter and make up 10% of the company's total volumes compared with 2% in the third quarter of last year. CONSOL expects to continue to realize liquids uplift on future average sales prices as additional wells are brought online in the liquid-rich areas of the Marcellus and Utica shales.
Faster-than-expected replenishment of gas inventories and increasing Marcellus production have put downward pressure on gas prices. These factors have contributed to a decline in the NYMEX index price for natural gas along with the basis differentials for most Appalachian market sales points. CONSOL continues to mitigate the effect of the current downward basis pressure by finding opportunities to optimize and diversify sales opportunities among our 80+ customers located in five index markets. In addition, CONSOL Energy continues to manage the impact of price volatility through an actively-monitored hedge program.
CONSOL Energy continues to develop a diversified portfolio of firm transportation capacity to support the three-year production growth plan. In September, the company entered into a precedent agreement with DTE Energy and Spectra Energy for its Nexus project as an anchor shipper to transport gas from the Appalachian Basin to Midwest markets. The pipeline is expected to be placed into service in late 2017.
The company currently has a total of 1.4 Bcf per day of effective firm transportation capacity. This capacity is adequate for the remainder of 2014 and supports the majority of projected volumes for the three-year growth plan. This is comprised of 0.7 Bcf per day of firm capacity on existing pipelines, contracted volumes of 0.5 Bcf per day under precedent agreements with several pipeline projects (including the Nexus project) that will be completed over the next few years, and an additional 0.2 Bcf per day of long-term firm sales with major customers that have their own firm capacity. The average demand cost for the existing firm capacity is approximately $0.23 per MMBtu. The average demand cost for existing, plus future, firm capacity is approximately $0.32 per MMBtu.
In addition to firm transportation capacity, CONSOL has developed a processing portfolio that supports the increasing volumes from our wet production areas. The company has agreements to support the processing of 211 MMcf per day of gross gas volumes growing to more than 380 MMcf per day in the next twelve months. These commitments are sufficient to cover projected processing requirements for the next two years. CONSOL will continue to layer in processing capacity as needed to support the liquids development plan.
In addition to establishing a solid processing portfolio, CONSOL is developing a diversified approach to managing ethane. The company has entered into supply agreements with INEOS Europe and also expects to supply volumes to Shell's cracker plant in Monaca, Pennsylvania. CONSOL is actively negotiating to supply ethane to other proposed regional cracker facilities. In addition to term sales, the company executed several spot deals to move ethane to Mont Belvieu via the ATEX pipeline. CONSOL will also realize ethane value through blending capabilities. Employing this multi-faceted approach enables us to meet pipeline quality specifications, diversify the ethane portfolio, and maximize our ethane pricing. CONSOL is in active discussions with a number of ethane customers and midstream companies for future outlet opportunities.
E&P Division Guidance
Fourth quarter gas production, net to CONSOL, is expected to be approximately 70 – 75 Bcfe. If achieved, this would result in 2014 production of approximately 235 – 240 Bcfe. CONSOL Energy continues to expect its 2015 and 2016 annual gas production to grow by 30%.
CONSOL's hedging strategy and formulaic approach for its natural gas portfolio requires entering into hedges that meet certain short and long-term internal pricing parameters. Due to the quantities and types of hedges in place during the quarter, as well as the then-expected future gas prices, CONSOL's hedge position met company requirements, and the company did not add any new hedges during the quarter.
Financial Results
CONSOL had adjusted net income in the 2014 third quarter of $20 million, or $0.09 per share, after adjusting for unusual items, which are listed in the EBITDA reconciliation table on page 11. Adjusted EBITDA1 was $236 million for the 2014 third quarter, compared to $178 million in the year-earlier quarter. Cash flow from operations in the just-ended quarter was $293 million, as compared to $196 million in the year-earlier quarter. On a GAAP basis, the company reported a net loss of $2 million for the quarter, or ($0.01) per diluted share. This is compared to a net loss of $64 million, or ($0.28) per diluted share from the year-earlier quarter.
CONSOL Energy continues to lower its cost of capital. On August 12, 2014, CONSOL closed on an additional $250 million of its 5.875% senior notes due 2022 at a price equal to $102.75 of the principal amount. CONSOL used the proceeds of the sale of the additional notes to partially purchase $235 million of principal of its 8.25% senior notes due 2020. This transaction will reduce annual interest expense by almost $5 million. Despite resulting in a charge to earnings in the third quarter, this transaction was NAV-accretive.
During the quarter, CONSOL continued to execute on its non-core asset sales program and after the close of the third quarter CONSOL Energy concluded several transactions. These sales generated $75 million in immediate cash proceeds and have an estimated total consideration of approximately $86 million. These transactions include the sale of a portion of CONSOL Energy's coal reserves located in Hamilton County, Illinois to a strategic buyer. These transactions, together with the proceeds from the CONE Midstream Partners LP IPO, put the 2014 and 5-year non-core asset sales programs ahead of schedule based on previously stated goals.
DeIuliis added: "When you look at what we have accomplished so far in 2014, the rate of change and results are impressive. During the quarter we successfully achieved both operational and transactional goals. These accomplishments are extensive, but we are far from finished. CONSOL Energy has shown itself to be a company unsatisfied with the status quo. I'm proud of all of our employees who are working tirelessly as a team to create meaningful NAV per share under current macro conditions."
The third quarter earnings results included the following pre-tax items related to recent transactions completed by the company:
- The company incurred $21.0 million in expense related to the early extinguishment of $235 million of the senior notes due 2020.
- The company incurred a non-cash charge of $4.8 million in association with pension settlement accounting.
- The company recognized a gain of $36.2 million as a result of measurements associated with amendments to the pension and OPEB plans, which were adopted during the third quarter.
- In conjunction with the OPEB plan amendments, the company recognized a $46.3 million expense for cash payments made to participants of the OPEB plan.
In the financial arena, CONSOL achieved a number of significant results. The company chose to re-align its pension and retiree medical (OPEB) obligations. Certain one-time payments to affected active employees will occur in the 2014 fourth quarter. These changes align our retiree benefit program with industry peers, while providing best-in-class compensation packages for our employees. These changes, coupled with the reduction in obligations from the sale of five mines in December 2013, result in total company retiree medical and pension obligations of approximately $766 million, as compared with approximately $4.0 billion just twelve months ago. The company anticipates the strengthened balance sheet will improve liquidity and credit metrics, as well as increase the likelihood of achieving its E&P 30% annual growth targets.