Good day, and welcome to the Cabot Oil and Gas Corporation third quarter 2018 earnings call. All participants will be in listen only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by 0. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then 1 on your telephone keypad. To withdraw your question, please press star then 2. Please note this event is being recorded. I would now like to turn the conference over to Dan Dinges, Chairman, President, and CEO. Please go ahead.
Thank you, Shaun, and good morning to all. Thank you for joining us for today's Cabot third quarter 2018 earnings call. I do have a number of the executive management team with me at the table. I would first like to emphasize that on this morning's call, we will make forward-looking statements based on current expectations. Some of our comments may reference non-GAAP financial measures, forward-looking statements and other disclaimers, as well as reconciliations to the most directly comparable GAAP financial measures are provided in this morning's earnings release. For the third quarter of 2018, Cabot generated net income of $122.3 million, or $0.28 per share, compared to $0.04 per share for the prior year comparable quarter. Adjusted net income for the third quarter of 2018 was $108.9 million or $0.25 per share, compared to $0.07 per share for the prior year comparable quarter.
For the third quarter of 2018, Cabot's cash from operating activities was $242.2 million, compared with $189.1 million in the prior year comparable quarter. Discretionary cash flow for the third quarter of 2018 was $298.8 million compared to $207.2 million in the prior year comparable quarter. Cabot returned to free cash flow generation during the third quarter of 2018, delivering $28.6 million of free cash flow compared to $4 million in the prior year comparable quarter. We have now generated positive free cash flow for 9 of the last 10 quarters and expect this trend to be the new normal given the inflection point we find ourselves at today. As previously reported earlier this month, daily equivalent production for the quarter was 2.029 Bcfe per day, which represents a 10% increase relative to the prior year comparable quarter and a 7% sequential increase relative to the second quarter of 2018. On a divestiture adjusted basis, third quarter 2018 daily equivalent production increased 19% relative to the prior year comparable quarter.
Realized natural gas prices increased 16% relative to the prior year comparable quarter, despite a 3% decline in NYMEX benchmark prices, driven by an improvement in pre-hedge basis differentials from -$0.99 last year to -$0.54 this year. Our unit costs continued to improve as we posted an 18% decline in costs relative to the prior year comparable quarter. Cash unit costs, which exclude DD&A, stock-based compensation, and other non-cash charges, were below $1 per Mcfe for the quarter, highlighting our ability to generate strong levels of cash flow even in a low natural price cycle.
During the quarter, we returned $188.5 million of capital to our shareholders through dividends and share repurchases and also paid off a $237 million tranche of a 6.4% senior note that matured in July, resulting in over $15 million of annualized savings going forward. Our continued reduction in capital employed, coupled with our growth in earnings, has resulted in a return on capital employed for the trailing 12 months of 10.8%, an improvement of over 500 basis points relative to the trailing 12 months ended in September 30th, 2017. On our capital allocation update. In this morning's press release, we highlighted our commitment to returning cash to shareholders through the continued execution of our share repurchase program and the announcement of our third dividend increase in the last 18 months.
Our share repurchases reflect continued belief that our stock is currently trading below intrinsic value, while the dividend increase highlights confidence in the company's ability to generate strong levels of free cash flow going forward. Year to date, Cabot has repurchased 30 million shares, and when including year to date dividend payments as well as our expected dividend payments for the fourth quarter, we will have returned over $820 million of cash to shareholders in 2018, representing a total shareholder yield of almost 9% based on our current market capitalization. Since we reactivated our share repurchase program in the second quarter of 2017, we have reduced our shares outstanding by over 7% to 431.2 million shares.
As a reminder, we currently have approximately 20 million shares remaining authorized under our share repurchase program. We also highlighted our commitment to returning over 50% of our annual free cash flow to shareholders going forward. We believe our firm commitment to provide this level of payout to shareholders annually while still preserving financial flexibility to remain opportunistic through all commodity cycles maximizes our ability to create long-term value for our shareholders. Our focus on increasing return of capital, coupled with an expectation for continued earnings growth, should allow us to deliver continued improvement in our return on capital employed, which already significantly exceeds our cost of capital. For Cabot's long-term plan to be successful, we have highlighted our four critical infrastructure projects to be completed during 2018.
While we have frequently provided updates on the progress of these projects, today, I'd like to provide specific details on these major accomplishments as our marketing strategy to create new major takeaway greenfield pipeline and development in key basin demand has finally and effectively come together. Regarding in-basin demand, we are happy to confirm that the Moxie Freedom Power project was successfully placed in service during the second week of August. As with all startups, we have had some volatility during the first few months of service, but placing the 1,000-megawatt facility in service prior to the winter season is a great milestone for Cabot. Moving on to the Lackawanna Energy Center. With trains 1 and 2 fully in service, we are only waiting for train 3 to complete its testing phase.
Currently, train three remains on schedule for December 1, and we are anxious for this mammoth 1,485-megawatt power facility to be 100% complete and fully in service for our December business. In summary, our two large-scale power projects will add significant in-basin demand for Cabot for years to come and provide for basis for an additional project as we continue efforts to increase local demand in the Northeast Pennsylvania area. On October 6, 2018, the Atlantic Sunrise project was placed into service for Cabot. No single project could be viewed as significant and material to Cabot's financial and operating strength as this new 178-mile greenfield pipeline that will connect Cabot's position in the Northeast Pennsylvania asset area to the Atlantic Coast market area.
On the operating front, we had several seamless, successful transitions as we diverted gas from in-basin out of multiple sources and immediately filled our new pipe to full capacity. With the Cove Point LNG facility already in service, this new pipeline provides a direct path enabling Cabot to capitalize on its 20-year, 350 million per day supply contract with Pacific Summit Energy and realize an opportunity we've all been waiting and working towards for over five years. That said, the in-service Atlantic Sunrise also triggers several other significant events for Cabot. To start, the pipeline now allows for service to commence for the following sales agreement. One, a 15-year, 500 million per day sale to Washington Gas Light. Secondly, a 15-year, 50 million per day sale to Southern Company. Third, a three-year, 150 million per day sale to an undisclosed customer.
To recap, on October 6th, Cabot commenced delivery of 700 million cubic foot per day to three new sales customers while delivering an additional 350 million per day to Cove Point for a total of 1.05 BCF per day to new markets with significantly better pricing realizations. With the addition of close to 400 million cubic foot per day of new in-basin demand from the power plants, Cabot has successfully shifted its primary pricing mix from supplier pricing to market area pricing for close to 1.5 BCF per day, a milestone that frankly is unheard of in today's environment. I might add, these are not temporary in nature as these transactions, for the most part, average 10-20 years in duration.
Personally, I would like to thank both our Pittsburgh-based employees and our field personnel, along with our partners and board for the commitment and execution of this step change event for Cabot. Moving on to our recent announcement of the new Leidy South project. We feel good about the scale and timing of this expansion of the new pipeline infrastructure. This 250 million per day project consists primarily of additional compression for Cabot's new capacity, which will significantly decrease the risk surrounding cost and construction timing. This project also allows for about 20% lower transportation rate to move our production down to the Washington, D.C., market area. More to come on this new addition to our marketing portfolio. Moving into the fourth quarter and a full-year update for 2018. This morning, we also reaffirmed our previously announced fourth quarter 2018 net production guidance of 2.225-2.275 Bcf per day.
Additionally, we reaffirmed our 2018 growth production guidance range of 7%-8%, or 12%-13% on a debt-adjusted per share basis, and our full-year capital budget of $940 million. Based on recent forward curves, we expect to generate approximately $200 million of free cash flow during the fourth quarter and approximately $250 million of free cash flow for the full year, highlighting the impact of our increased production volumes, improved local realizations, our sales agreement to the Moxie, Freedom, and the Lackawanna Energy power plants, and our access to new markets via the Atlantic Sunrise Pipeline. On the local realization front, we have experienced a significant improvement in prices since the beginning of the fourth quarter, driven by the in-service of the Atlantic Sunrise project during the first week of October.
Prior to Atlantic Sunrise coming online, local cash prices averaged $1.40 compared to an average of $2.90 since the in-service of Atlantic Sunrise. Cash prices in the Northeast have continued to improve throughout the month, with this week average price over $3.10. For reference, last year October local cash prices averaged $0.72, highlighting the impact of new takeaway from the area and increased in-basin demand. Now moving on to the 2019 preliminary operating plan. This morning, we also provided our 2019 production growth guidance range of 20%-25% or 25%-30% on a debt-adjusted per share basis. This production growth is based on a capital budget range of $800 million-$850 million. Where we land within this capital range will ultimately be dependent upon our views of the natural gas macro in 2019-2020, for which this coming winter season will certainly have a large impact.
If demand remains strong and supply growth does not overwhelm, we could easily target the higher end of the capital range, allowing for a stronger trajectory heading into 2020. However, if winter weather disappoints, supply growth continues to outperform expectations, we're more than comfortable targeting the lower end of our capital range with a focus on maximizing free cash flow and returns on capital, which result in a modestly lower 2019 exit rate. I would also note that our 2019 capital guidance includes approximately $10 million of capital for pad construction and drilling in our exploration area. We have continued to make progress on the evaluation of this area, but our progress has been slowed somewhat, slower than forecast due to permitting and weather delays. Currently, I estimate that our evaluation will be complete sometime in the latter part of the first quarter of 2019.
Based on current market indications for NYMEX and basis differential, we expect our natural gas price realizations for 2019 to average $0.30 below NYMEX, resulting in free cash flow levels of $650 million-$700 million for the year, or over a 7% free cash flow yield based on our current market capitalizations. Excuse me. Additionally, this program would generate earnings per share growth greater than 60% and return on capital employed over 20%, both of which are extremely competitive when compared to the broader S&P 500 averages. As it relates to production range for 2019, let me first highlight that this has nothing to do with well performance or asset quality. In fact, the recently released production data for the state of Pennsylvania for August further confirms this, with Cabot delivering 15 of the top 20 wells in the state.
Instead, the current production levels forecast versus our preliminary guide back in February is a result of extremely capital efficient program that only requires three rigs and two completion crews and includes larger pads and longer laterals that require, at various times, existing production to be shut in on offset pads and completion operations. These pads or wells may be shut in anywhere from a month to six months, depending on location. I would also note that these shut-in wells return to pre-shut-in rates once placed back in production. While our expected production growth in 2019 is only 25%-30% on a debt adjusted per share basis off of a 2-plus Bcf net per day base, it is slightly lower than our original forecast. However, so is our capital budget lower. By a considerable amount.
When incorporating the impact of higher expected realized prices, our free cash flow expectations are in line with our estimates from our earlier projection. We do remain excited about the setup for 2019, driven by our ability to generate a healthy combination of growth in earnings per share, free cash flow, and ROCE. With that, Shaun, I'd be more than happy to answer any questions.
We will now begin the question and answer session. To ask a question, you may press star then one on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question comes from Leo Mariani with NatAlliance Securities. Go ahead, Leo.
Hey, guys. Just wanted to follow up a little bit on your comments regarding guidance for 2019. Just trying to get a sense, you obviously are targeting slightly lower CapEx, slightly lower production growth. You explained some of the rationale, but just big picture, is there a concerted effort by Cabot here to spend a little bit less money and just generate more free cash flow with the thought of returning much higher percentage of that to shareholders? Is a lot of this just part of a master plan and a shift to return more of that capital? Just wanted to get some of the thinking behind that.
Well, it's exactly that, Leo. We have, for the last couple of years, been directing our attention to a value model versus a growth model. Our efforts to become the lowest cost producer out there, I think is certainly realized, and our efforts to return capital to shareholders and also a return on capital has been highlighted in our prior comments. Our plan is a laser focused on having a value model coupled with modest growth. I think in this environment, particularly in an environment that has a healthy supply component to it, I think it's the prudent way to go. We're one of a few companies out there that can, with superior assets, manage a return of cash to shareholders, return on capital that competes favorably with not only our space, but also the broader S&P 500, and it's our objective to continue along these lines.
We put benchmarks in our release of returning a 50% of our free cash flow to shareholders, and we're doing everything we can to balance both the capital spend and be able to react, if you will, to what the macro market does in the space. We see absolutely zero reason to grow into an environment if in fact the commodity price does not provide superior returns.
Okay. That's very helpful, caller. I guess just to that end, assuming that gas prices stay strong as you work into 2019 and your free cash flow goals are materialized, then I guess should we continue to expect to see potential bump up in the share repurchase program and consideration for even higher dividends as we work our way into next year?
Yeah. We're putting in there, if in fact you do have the commodity price improvements, we think this winter is going to be an interesting period with the supply and storage being where it is. If we do have a winter event, I think it's going to, and certainly we've been shut down in a couple of areas to be able to get needed pipelines to the Northeast area. We haven't been able to get a pipeline across New York, but we think that some of those customers are going to suffer a higher energy cost up there if we do experience a cold winter in light of our ability or lack of ability to be able to get the natural gas in the areas that certainly the market is needed and has asked for.
With that improvement in pricing, we do plan on delivering, as we've laid out, a return of our cash flow to shareholders.
Okay, really helpful. I guess just lastly, could you folks just talk about progress on sort of the new generation frac design on some tests in the Upper Marcellus?
Well, we have said in the past that our design we're landing on, for the most part, is our Gen 5 design, which we've talked about in the past. We've also indicated that we are, as part of our 2018 program, we have a number of Upper Marcellus tests that we are also completing. We've indicated that the early look at the Upper Marcellus meets with our, or exceeds our expectation of what we put out as far as our production curve. We don't see anything that is going to deter from our position that the Upper Marcellus is a distinct and accretive zone different than the Lower Marcellus. We're comfortable with that position. Everything we've seen and what we've done with our completions out there supports that position.
Once we have more production to be able to represent the production curve and the curve fit, we will be adding more clarity and support, and be more open with what we see early time.
Thank you very much.
Thanks, Leo.
Our next question comes from Charles Meade with Johnson Rice. Please go ahead, Charles.
Good morning, Dan, to you and your team there.
Hello, Charles.
This is another question I think maybe is an attempt to kind of simplify some of the detailed thoughts you gave us. Can you give us an idea of what data points will be on your internal dashboard or the dashboard of management there as you guys decide to dial up or dial down on CapEx? I imagine NYMEX is part of it, but also your local basis where you'd be delivering incremental volumes and also share price. Are there other items there, or is that the right way to think about it?
Well, it's all the above, Charles. Say we have a disastrous winter season and you get softness in the price. You have over-pressured pipelines up there, where they have restrictions on pressures, and it hits the price point for natural gas pricing. Well, it's not going to make sense to just continue to ramp up as our asset would allow a bunch of gas into that environment. On the other side, if in fact, as forecast, there is going to be the possibility of a colder winter and there would be a strong support through the winter on the commodity price, which would challenge the market to supply the demand that might be anticipated, we will be part of that demand equation, spend the money. Bill Stalnaker's here who runs our north region.
His group will move forward expeditiously to continue to execute their program in a very efficient manner, we will be able to ramp up our deliveries in what we think would be a timely fashion. Now, it's not instantaneous when we start ramp-up spending capital, it does support the back end of 2019 rolling into the 2019-2020 winter season, where if in fact the storage is similar to what we see and we want to enhance our position rolling into that winter season, all macro points considered, NYMEX and some of the points you've brought up, Charles, we will be fully capable of upping our 2019 exit and our expected 2020 production levels.
Got it. That makes sense, Dan. Following up a little bit on that point, you gave some interesting color in your prepared remarks about the local basis up there before and after Atlantic Sunrise came on. Honestly, those numbers that you gave, I believe you said $1.40 before, $2.90 after, that seems pretty dramatic to me and better than I would've guessed. Could you talk about how it fit versus your expectations, what you guys were going to see before and after, and if anything has surprised you?
Well, we certainly have always had the expectation that Atlantic Sunrise was not only going to take out of basin, and that's the supply basin, our $850 million that we had committed to that pipeline, it was also going to be an incremental $850 million to get to Atlantic Sunrise full capacity of 1.7 Bcf a day that is being taken out of basin. I think a direct result of the enhanced position of the basis and the improvement in the basis is a direct result of 1.7 Bcf a day being evacuated from the supply basin. To tell you how quick it happened for us, Jeff had mentioned being a little granular that at 10:00 A.M., the Atlantic Sunrise project was commissioned on October 6th.
A little more than two hours later, we had already transferred out of the supply basin $850 million cubic foot a day to the market basin, where we were getting and receiving different price points. That's how quick we moved it out of basin. Others, I don't know their timing, but others for the other $850 million, I'm sure it was done in a timely basis because we were going to be reaching better price points. Along with this evacuation, certainly the dynamics of the storage and the early predictions of winter has had an effect on the local basis. It is reflected in our guidance of having 2019 expectation of our realizations being $0.30 less than NYMEX is a significant improvement where we've been in the last four years.
Right. We see that too. All right. Thank you for that color, Dan.
Thanks, Charles.
Our next question comes from Brian Singer with Goldman Sachs. Please go ahead, Brian.
Thank you. Good morning.
Hey, Brian.
There's a glass half empty, glass half full way of looking at the greater than 50% commitment to returning free cash flow, or the commitment to returning greater than 50% of free cash flow to shareholders. Certainly, I think people can look and say, "Wow, look, here's a company that is committing to share repurchase and dividends." Then the other side would be, "Hmm, what's going to happen to the other 50% or less than 50%?" Can you add some color on how you're thinking about the remainder of that free cash flow, the extent that that would be debt pay down, acquisitions, exploration, and maybe give us an update on the exploration side well as part of that?
Well, you can look at the past, Brian, you've followed us for a long time. We have always managed in a, what I would couch as a conservative method, and a conservative management of our balance sheet. We did not have any problems keeping close to $1 billion of cash on our balance sheet when we sold our Eagle Ford and closed on that. We have cash on our balance sheet right now with $1.8 billion undrawn on our facility. That position just, we sleep well at night. I think our shareholders sleep well with that at night.
If in fact, we found an opportunity to utilize that additional 50% of our free cash flow in a prudent way, the way we manage the rest of our business, we would think about that, and we would have the ability to execute on an opportunity if in fact we see it. The issue is with our tremendous capital efficiency, how we allocate our capital, what we expect when we allocate our capital sets a high bar, and that high-class problem makes it rather difficult to find a competitive area to allocate that incremental 50%. At this time, we're comfortable having it on our balance sheet.
Great.
I'm sorry.
Thank you.
Scott's referencing I didn't answer the exploration side. We've been delayed up there because of the construction build out, some weather slowdowns, and permitting issues to try to get to the data gathering point we need to drill and complete and test. That slowdown has pushed into where we think the completion of what data gathering that we had set out when we first started this effort that we'd need to evaluate the project. We think we'll have that gathered in the middle to latter part of the first quarter, and then have an evaluation certainly subsequent to gathering that data. We'll make the appropriate call, just as we have in the past on whether or not we want to allocate capital further, or we do what we did with our greenfield project.
With that, if we don't see it can compete for capital, we'll call it a day on that project and move on. Between now and gathering that data, or in 2019, we've budgeted about $10 million for 2019 to accomplish that.
Great. Thank you. Then my follow-up is with regards to any type of constraints that may be impacting production currently. Can you talk about whether there's any flexibility without meaningful incremental spending should the pressure situation be right in the Marcellus to bring more production online? To what degree is there, or what level is there production behind pipe, and what is the environment in which you would bring that on?
Yeah. Our guidance is a, what I would couch as a conservative guidance from the standpoint that we are ramping up into our gathering system. Our guys in the field, along with the Williams personnel, continues to look at the most efficient way to ramp up production into the system. We look for all different kinds of ways to make our gathering system efficient. We schedule where we complete wells, when we bring on wells in a way that balances the current production within a particular pod area of the gathering system compared to another area in the gathering system, in the field area, that would allow us to bring on completed wells into an area that the production has trended down, where we would not have as much inter-pod pressure issues associated with our new production and its effect on old wells.
We balance that way out in advance as we schedule drilling and completions and the number of wells we drill off a pad. As we go through this completion operation, and you look at having to shut in offset wells, we would mitigate any of the frac hits or pressure sensitivities. That's been done throughout our industry. Everywhere that you have laterals that are in close proximity to new laterals, that are in close proximity to old production, that's happening across the entire industry space. Everybody is dealing with how you manage bringing on completions and bringing on new wells and its effect on offset production. Our guidance, we think, is conservative in that respect on how we have sensitized that impact and mitigated that impact.
We've made our best guess forecast on how many days we'd have certain wells or pads shut in as we bring on new wells. That's, again, just a balancing act. I can assure you, every opportunity we have to bring a well back on that's been shut in and to expedite or reduce the shut-in period, that we're going to do that. We feel like we've managed, through our guidance, the effects of that process.
Thank you.
Our next question comes from Doug Leggate with Bank of America Merrill Lynch. Please go ahead, Doug.
Thanks. Good morning, Dan. Congratulations-
Doug
on the quarter.
Thanks, Doug.
I wonder if I could just touch back on a couple of the comments you made about in-basin capacity and the line of sight you have for basically the constraints on your growth as you go forward. Obviously, you've laid out 4 Bcf a day growth today. Realistically, when do you think you'd get there, given all of the above in terms of capital allocation, pace of growth, market conditions, and so on? What do you think is the timeline when we see you lift your production to that level?
Well, Doug, that's a great question. I'm sure one that everybody would like to see us lay out a three-year, four-year, five-year forecast. There's so many variables that go into laying out that forecast. I'd first start by saying that if, in fact, the macro market would allow us to ramp up production even beyond 4 Bcf a day in the earliest possible timeframe, our assets and our efficiencies would allow us to do that. We might bring on another rig, we might bring on another frac crew, we might schedule it out a little bit different, but we could stage in a reasonable timeframe, a tremendous ramp-up in production with our asset base that we have.
With that being said, to guide to a ramp-up, it would be a timeframe that takes into consideration all the variables, whether it's NYMEX pricing, whether it is the storage impact on pricing, whether it's the weather, whether it's the supply side by other operators up there, is there a growth for the second growth out there by others? If that happens, it's going to have, I would think, a negative effect on the capital efficiencies of those companies that grow for the sake of growth. We've all looked at what is prudent in rationalizations of a market that's oversupplied at any given time.
I think at some point in time, the market and those participating in the market are going to make a rational decision that growth is not everything in this business, that you better be able to create significant value, become a low-cost producer, and participate in giving back some to the shareholder in that manner, as opposed to growth for the sake of growth. We're not going to step out on the limb of forecasting three years, four years out into the future because of the variables.
I can say this, that if in fact we forecast some sort of growth out there, even though I know we could get it operationally, if in fact the market influences and the macro influenced it in a way that would not be prudent from a value consideration to grow into that, we would probably get hammered because we cut back on our guidance, and we did not allocate the capital to get there. Even our 2019 program illustrates that. We felt like we were prudent in dialing back our capital spend, dialing back our 2019 guidance to 20%-25% growth in 2019, which is 25%-30% growth on a debt-adjusted per share basis. That's off a 2 Bcf plus net production. We think that's fairly robust production. Regardless of what we said earlier, we think that's fairly productive.
We get reports that have come out and some of the headlines in the reports are, guidance and production is light in 2019. Yeah, it's light. Okay, it's only 20%-25%. We think it's also reasonable to take into consideration the value proposition that Cabot brings to the table.
Well, I appreciate the long answer, Dan, I think the debt-adjusted metric is the right one to look at to your point. My follow-up, hopefully a quick one, I really just wanted to take a more holistic view as to the free cash flow story here, because it's obviously extraordinary. I just wonder, first of all, if and when you get to that 4 Bcf a day, what does the sustaining capital look like? I assume you had to hold that flag. It seems to me that in your pursuit of obviously trying to create shareholder value, maybe the market's not looking at you the right way. Perhaps the free cash annuity story is a very different valuation metric than the E&P story, if you like. I'm just curious, would you ever consider, in some way, changing the company structure?
MLP comes to mind, something of that nature. Not exactly in that format, obviously, but you get the idea. As a free cash annuity, how do you feel about the current company structure to meet your goals, and what would that sustaining capital look like if and when you did get to the 4 Bcf gross production number?
Yeah. Great question, Doug, Certainly directionally, how we try to operate. First, the maintenance capital that's required to get to our expected growth trajectory and pick your number of what we have in our guidance, or what we have in our current infrastructure capacity of 4 Bcf. Our maintenance capital, which is always critical when you talk about an MLP, is extremely low, I would venture to say our maintenance capital, compared to any other asset out there, is unparalleled on what it takes to maintain a level of production. It is probably, here's a swag, $650 million, $750 million as a maintenance capital number out there. With that maintenance capital, you can use your own back of the envelope numbers of a 4 Bcf production profile, throw in whatever commodity price you want, we're going to generate a lot of free cash.
To get back to your MLP consideration, that cash flow, that distribution, if you will, is something that we are guiding towards in the future. It's our expectation that we will deliver that return of capital to shareholders, it's our expectation that we are going to manage to a return on capital that we think will, in the long term, compete very favorably with the S&P 500 benchmarks that are used out there. I think once a generalist looks at Cabot and it sees that even in a commodity-based environment, that we would be able to still deliver on a return of capital, return on capital, a yield that is competitive and consistently at or above other industries in the 500, I think then we will get a multiple credit that we would all enjoy. That is kind of our longer term vision that we have.
Yeah, I guess, again, I appreciate the long answer, Dan. I guess my consideration was more that as you move into a more sustained cash tax paying position, the free cash story speaks for itself. Maybe if I may, just one very last quick one. Given how strong everything is in the Marcellus, have you kind of slowed down or given up on your diversification ambitions? Are you quite happy to stay with what you've got, or should we still anticipate updates on the exploration front? I'll leave it there. Thanks.
Well, yeah. You could expect, Doug, exploration update and behind the gathering of data that I've referenced in the first quarter of 2019. As far as our ongoing vision and what we do with our capital, it's compelling, I think incumbent upon myself and the management team to look at any way that we can continue to enhance shareholder value. That is a broad open-ended what you might do. However, I think from a street perspective, investor perspective, look back historically on how we made decisions in this company, I think that you would have to have a little bit of a faith that if we do make decisions, that we're going to make prudent decisions on how we might spend or allocate available capital.
It continuously is our effort to not only enhance our eye on shareholder value and how we create value in the future, it's also our obligation to mitigate any kind of risk that we might see out there as far as diversity or one basin consideration. Again, we've always had that, though. We've had that now for years, that consideration, because that's how Cabot's been viewed. Again, we haven't jumped to just jump. We have to look at the value consideration, value proposition.
Thanks so much for all your time, Doug. Appreciate it.
Thanks, Doug.
Our next question comes from Michael Hall with Heikkinen Energy Advisors. Please go ahead, Michael.
Thanks. Morning, guys. Congrats on a solid update. I guess I was curious on a few things, maybe first on the payout side of things has been covered a good bit, but how should we think about the relationship to payout of that free cash flow relative to gas prices? Is there any connection there? Meaning, as gas prices increase, are you more willing to pay out even higher, materially higher than 50%, or in a lower gas price environment, you hold on to more of it. Is that a reasonable way to think about it or any color on that?
Well, there's options available for that. We've kind of guided on a percentage of free cash flow generated. We'll stick with that guidance. You have available, if you wanted to speculate, which this is speculation, if you wanted to say, "Okay, we had a period of time where commodity prices went to $4.50. It generated a lot of free cash." Maybe there'd be a discussion of a special dividend. That's speculation again on my part, but that's one way you could look at it. I think we would still, as far as sideboards guide towards a 50% of our free cash flow and work within those parameters.
Yeah. No, that's fair.
That'd be speculation to talk about it otherwise.
Yep, understood. In terms of the payout, how about the split between dividends and buybacks? What's the current thought process on that? Obviously, one requires a little more maybe commitment than the other, I guess, from a long-term standpoint. If we were to split the payout, how might that look, dividends relative to buyback?
Yeah. Scott, would you want to
We're not going to get that granular on that. As we've said before, we like both of those vehicles equally as well. What we don't want to find ourself in is being a little too aggressive over a period of time on the dividend and then get caught in a down market that we will periodically have in this industry somewhere out in the future. It's a measured approach on the dividend. As you can see, a year ago or so, we made a big step change, and then we've had a couple of smaller increases. We'll be methodical in those increases with the dividend and continue to be mindful of the underlying, what I'll call firm commitment that the dividend payment presents as we go forward in the future. As our cash flows continue to expand, you could see more dividend increases.
The highlight yesterday is the fact that with this inflection point, with all the new pipelines, the infrastructure projects, we are very comfortable moving to the $0.07, which is $0.28 per year right now.
Okay. Understood. Makes sense. There's some views on longer dated on the gas market around some potential challenges in supply and demand that may emerge, call it 2020 plus, as continued supply growth, particularly outside of the basin or outside of the Northeast, but also in the Northeast, potentially overwhelms demand. Do you guys have a view kind of broadly on long-dated supply and demand dynamics? What's the kind of sensitivity or how should we think about that in the context of the free cash flow outlook?
I think the supply-demand function is going to remain as a topic of conversation. There's going to be a number of impacts, I think, on both sides. Supply side, I've referenced already, at some point, once you get this near-term infrastructure build-out on the pipelines that have been recently commissioned, and the allocation and direction gas is allocated, I think the basin, and certainly the Appalachian Basin, is the largest supply area in the country. I think there will be some rationalization of how you grow into the future. I don't think there's going to be growth for the sake of growth, and I think there'll be rationalizations. I've said in the past, I think there'll be opportunities for consolidation in the basin.
I think to become a lower cost producer, I think some are going to maybe require some synergies to be able to get to a point where they deliver acceptable returns to their investors. From a demand standpoint, there's going to be demand inflections. The LNG's approval, even though there's been delay on LNG, we think that is certainly coming. There's projects that are under construction right now that's going to have the impact. We think the exports are going to be part of the equation. Not on everybody's radar screen, we think in-basin demand opportunities are going to be in the future, and when gas is allocated in basin, it kind of doesn't get out there in the market affect maybe the macro pricing. It's priced, maybe as what we have done with our power plants, priced on a power benchmark versus a NYMEX benchmark.
There are 26, I think, in-basin projects that are being discussed in the Ohio, Pennsylvania area. If you look at all of those 26 projects and you kind of get them up to speed and you commission them along the levels and size that are forecast up there, that's greater than 3.5 BCF of in-basin demand that I don't think a lot of people talk about. I think that is going to be impactful, particularly if you have the rationalizations that we're looking at. I think the supply-demand balance and being able to manage that is something that industry, if acting prudently and accepts the value model a little bit more than growth, I think will manage well, and I think it'll be managed at a price point that will certainly be attractive for Cabot investors.
Okay, great. That's helpful color. I'll leave it there. Thanks, guys. Appreciate it.
Thanks, Michael.
Our final question comes from Jane Trotsenko with Stifel. Please go ahead, Jane.
Yes. Good morning. My first question is regarding free cash flow. Does your free cash flow guidance include any cash tax refund proceeds? If it's an organic free cash flow or post-dividend free cash flow?
Jane, this is Matt. Our Q4 and 2018 guidance does assume that refund of the AMT credit carry-forwards. As far as cash taxes in 2019, the current guide assumes that we just have 100% of our income taxes deferred, but there's no refund.
Okay. You guys don't include the dividends in that free cash flow guidance?
We do not.
It's post.
We-
It's pre-dividend, right?
Pre-dividend, that's correct.
Okay.
It's a discretionary cash flow, less capital.
Okay, got it. That's perfect. The second question is regarding Atlantic Sunrise and its impact on transportation gathering and processing line. I saw that you guys are guiding to kind of flattish per unit transportation gathering and processing expense quarter-over-quarter for 4Q, despite that Atlantic Sunrise has been online since early October. I'm kind of curious if we should see a pickup in per unit expense in 2019. I was surprised that we didn't see it in 4Q 2018.
No, we're guiding for next year for 2019, a $0.66 gathering transport. The reason you don't see that pickup in our gathering transport line is that we are netting the transportation costs for the sales on Atlantic Sunrise against the realized pricing. If you go and look.
Oh, okay
In our guidance slides for Q4, you'll see that the volumes that are reaching Transco Zone 6 non-New York, they're actually deducting around $0.65 from those to account for the transport deduct. It's already accounted for in our $0.30 differential guidance for 2019.
That's awesome. That's perfect. That makes sense. Okay, thank you so much. That's it for me.
Thank you.
This concludes our question and answer session. I would now like to turn the conference back over to Dan Dinges for any closing remarks.
Well, thank you, Shaun, and thanks for the questions. I am pleased that there are the number of questions that we've received directed towards the value model that Cabot is putting forth. Again, reiterate, we do look forward to continuing our same style of managing our balance sheet and how we allocate capital. We'll have a focus on value and what it does for our shareholders. Thanks again, and look forward to catching up on the next quarterly teleconference and year-end teleconference. Thank you, Shaun.
Thank you. The conference has now concluded. Thank you everyone for attending today's presentation, and you may now disconnect.