Good day, everyone, welcome to the Western Gas third quarter 2018 earnings conference 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 that today's event is being recorded. I would now like to turn the conference over to Jon VandenBrand, Director of Investor Relations. Please go ahead with your presentation.
Thank you. I'm glad you could join us today for Western Gas's third quarter 2018 conference call. I'd like to remind you that today's presentation includes forward-looking statements and certain non-GAAP financial measures. The accompanying slide deck and last night's earnings release contain important disclosures on forward-looking statements, as well as the non-GAAP reconciliations. Please see the WES and WGP 10-Ks and other public filings for a description of the factors that could cause actual results to differ materially from what we discuss today. Those materials are all posted on the Western Gas website at www.westerngas.com. I'd also like to highlight some of the additional health, safety, and environmental, or HSE disclosure we have provided on our website. Anadarko and Western Gas have always had a strong commitment to HSE and will continue to engage on these important topics.
I'd like to turn the call over to our CEO, Ben Fink. Ben?
Thank you, Jon, Happy Halloween, everyone. We are excited by our quarterly results with adjusted EBITDA and distributable cash flow of $314.5 million and $248.2 million, respectively. This robust sequential growth of 16% and 12% represents the beginning of the second-half ramp that we promised at the beginning of the year. Third quarter coverage of 1.08 times has significantly expanded from the second quarter, our expectation of approximately 1.2 times coverage for both the fourth quarter of 2018 and full year 2019 remains unchanged. Our natural gas throughput was driven by strong growth in the Delaware Basin, which was supported by critical midstream infrastructure coming online in the second and third quarters, as well as our large customers' proactivity in securing takeaway out of the basin. Our Ramsey facility is currently running above nameplate capacity, and we continue to see strong demand for our water services.
We also saw continued volumetric growth in the DJ Basin, supported by the lowest in-basin line pressures and notably higher volumes in the Marcellus, driven by increased drilling activity. This growth was partially offset by a decline in lower margin volumes at our Chipeta plant and at our Springfield Gathering system, where a part of the system was offline for over 20 days in September due to flooding from heavy rains. Our adjusted gross margin per Mcf of $1.03 was $0.08 higher than the second quarter as our margin normalized following last quarter's accrual of shutdown costs. The growth in our crude NGL and produced water throughput was driven by a full quarter contribution from Whitethorn, as well as the ongoing volumetric ramp in our produced water gathering and disposal business.
The sequential increase in our adjusted gross margin for crude NGL and produced water assets of $0.20 to $1.76 was also a result of receiving a full quarter distribution from Whitethorn. As you saw in our release, despite the Mentone facility coming online slightly later than originally expected, our 2018 adjusted EBITDA midpoint and our distribution coverage expectations remain unchanged. We have also lowered the midpoint of our 2018 maintenance capital range while keeping our total capital expenditures outlook unchanged. With respect to 2019, while we will release our official outlook later this year, there are two things we're comfortable sharing today. First, we expect significant organic growth in adjusted EBITDA of at least 20%, and second, our capital expenditures will significantly decline. We believe our unit holders are well-served by this combination of significant cash flow growth and decreasing capital requirement.
As always, we appreciate all your continued support. With that, operator, I'd like to open up the line for questions.
Thank you. We will now begin the question and answer session. To ask a question, you may press star then one on your touch-tone phone. If you're using a speakerphone, please pick up your handset before pressing the key. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first questioner today will be Jeremy Tonet with JP Morgan. Please go ahead.
Good morning.
Morning, Jeremy.
Congrats on the quarter and the 2019 guide there. 20% growth organically is a pretty good number. Was wondering if we could build off that a bit more and kind of see how that trajectory might line up across the year, because it seems like you have some plants coming online up over the course of the year. You have some JV interest kind of come online towards the back half of the year. Is it a case where we could kind of see a steady ramp across the year, or would you expect kind of back half of 2019 to be weighted higher than first half or any color that you could provide there?
I totally appreciate the question, Jeremy. You're just going to have to be a little patient with us. We'll give full 2019 guidance later this year, and we'll talk about all the quarterly lumpiness and ramps during that time. Right here, right now, I can just tell you that everything seems to be trending the right way.
Fair enough. Pivoting to a smaller part of the story, granted, the Eagle Ford is not the main driver here, but with Springfield, it was down a bit with kind of some of the activities you noted there, but just wanted to get a sense for how you see activity behind your system there and kind of what's your most updated thoughts as far as the outlook?
Okay, sure. The quarter's volume, sorry, as we mentioned, are really weather-driven. What we're dealing with in the Eagle Ford is an operator who's an Eagle Ford pure-play. As I'll remind you, when we actually bought that asset at the beginning of 2016, we thought the volumes were going to be in decline for at least three years, then we got back to sequential growth less than two years after that. We are playing with house money. I love what the operator is doing. I love the steps that it's taking to improve its business and improve efficiencies. I expect we'll get back to sequential growth in the near future.
That's helpful. Thanks. Just wanted to think, as far as what the latest size of the inventory of drop-downs upstairs would be. There's been a lot of midstream spend at APC, clearly with the level of organic growth that you guys have in front of you, there's no need for drops in the foreseeable future, but just want to kind of mark that for our model.
Sure. To be clear, this, not really guide that we gave, this tease that we gave, does not assume any drop-downs of any kind. Just like the West portfolio, the Anadarko midstream portfolio is a high-growth portfolio, as you would expect it would be with all the capital being spent on it and the relative immaturity of some of those assets. We'll give an EBITDA range just like we did this year when we give full guidance.
Gotcha. That's helpful. I'll stop there. Thank you for taking my question.
The next questioner today will be Spiro Dounis with Credit Suisse. Please go ahead with your question.
Good afternoon. Thanks for taking the question. Wanted to start off on CapEx, if we could. I don't want to get too out of your 2019 guidance coming up in the next month or so, but it sounds like maybe it could take a material step down from 2018. I just wonder, do you see that going higher if the market strengthens from here? Really just trying to get a sense for, I guess, how much capacity or appetite you guys have to keep spending elevated if things remain really tight.
First of all, Spiro, welcome to the family.
Thank you.
The short answer is no. You might recall that our strategy when we started our two-year capital plan last year was to size pipe today to size it for the future. What we did is we accelerated some of that CapEx just for this purpose, that even if there's more producer activity, we will not have to loop lines, and therefore can still have declining capital expenditures even with increased activity.
Got it. Okay. You mentioned this in your prepared remarks, obviously the delays in Mentone didn't really do anything to your guidance. Midpoint stayed the same. Just curious if that was a function of you guys building in some conservatism there, or is the underlying business just coming in stronger than expected?
It's not a material delay. You're talking about our expectation of the end of the third quarter, we're really only looking a few weeks after that. Between that and the fact that we had a range to begin with, just didn't have a huge impact.
Okay. That's fair. One more, if I could. I'm sure you guys know you get asked this every quarter, I don't want to break the trend, I guess has there been any movement around simplification or addressing the IDRs?
Just like Jeremy's question, totally understand your need to ask, we have nothing new to say on that topic at this time.
No worries. That's fair. Appreciate the time, guys. Thank you.
The next questioner today will be Jerrad Holder with Goldman Sachs. Please go ahead.
Thanks. Good afternoon. Just wanted to go back maybe to the guidance of at least 20%, and just want to know, how does that factor in the Colorado election coming up?
That's a great question. Obviously we're not in a position to speculate on the election, but we're confident enough in that number that regardless of outcome, we feel like that's something we can meet.
Great. Maybe switching to the distribution growth outlook as we look to next year. I saw you guys broke out the 9% number for 2019. How should we think about that, just given that many other companies have moved to slower growth rates, retaining more cash? How are you guys thinking about distribution growth in general?
Totally fair question, and when we give 2019 guidance, we will address that in detail.
Okay. Thank you.
Our next questioner today will be Colton Bean with Tudor, Pickering, Holt. Please go ahead.
Morning. Ben, on the 2019 outlook of 20%, any rough breakout of how much of that is underpinned by the respective basins?
We can give more than a rough breakout when we give guidance. It shouldn't surprise you at all that Delaware is the high-growth entity. It's where we've spent the bulk of our capital, and it's where those volumes are really starting to ramp with all that critical infrastructure coming online. If you want capital by basin, which we give in our normal guidance, you're just going to have to wait just a few more short weeks.
Got it. It sounds like in the commentary there that really the 2019 expectations are largely underpinned by existing DJ permits. At least muted risk to 2019, it'd really be a longer-dated consideration if anything were to change.
I think that's fair.
Got it. Just a final one. Powder River development's been on the drawing board for a few quarters now. If 2019 is largely underpinned by Delaware and existing DJ permits, is there potential for the PRB to be a meaningful contributor by 2020? In a great state of the world, that's adding a third leg to the stool, and in maybe a downside case, it's mitigating some of the issues in the DJ?
Potential, yes, there's absolutely nothing in our forecast that gives us confidence around that 20% number.
Okay. Thinking more so on a 2020 basis.
Yeah. There's upside there.
Okay, perfect. Appreciate it.
The next questioner today will be Sharon Lu with Wells Fargo. Please go ahead.
Hi, good morning. Just a couple of, I guess, housekeeping questions. In terms of Cactus II payments this year, are you expecting any additional payments?
Hi. Good morning, Sharon. I'm going to let Jaime take that one.
Yeah. On Cactus II, that isn't expected to go into service until next year.
Okay.
Oh, capital?
We have some expected ongoing capital calls that'll probably go through the balance of the year into the fourth quarter, and usually as it is normal practice as it ramps up into the third and fourth quarters, based on Plains guidance, we'll continue to pay our share there.
Okay. I guess the impairment charge of $24 million this year, is that still related to the two systems discussed last quarter?
Yeah, this is Jaime again. About $7 million of that is related to the two systems that we shut down earlier this year.
Okay. It sounds like, I guess based on your remarks, that even if Prop 112 does go through and there's a shift, I guess, in Anadarko's rigs to the Delaware and PRB, that your CapEx outlook for 2019 wouldn't really change that much to support that activity?
That's an interesting question as it relates to capital. That's probably why we weren't as specific with the capital number as we were with the EBITDA number. What I'll just reiterate is where there's enough existing growth from what we see as even a low case 2019 activity, that we can achieve that 20% EBITDA.
Okay.
We'll give more guidance on capital when we get on the other side of next week.
Okay. Thank you.
Sure.
The next questioner today will be Marek Zach with Citigroup. Please go ahead with your question.
Hi. Good afternoon, guys. Just one quick one for me. It kind of builds on to Colton's question. If you hypothetically, things didn't go the way you'd hoped on Proposition 112, you see some DJ producers shift capital elsewhere, such as Anadarko specifically commenting on the Powder River. I know you currently have a position there today. In general, what would be your ability and appetite to support meaningful infrastructure build-out in other basins for APC or other DJ customers, perhaps in basins that aren't really your key focus regions at this time?
Good morning, Marek. I think, to echo Anadarko's comments this morning, their strength is in their diversity. They are not a single basin pure play. They have the optionality to move rigs to other basins should it be required. We, as their midstream arm, have that same optionality to follow them, hook up those wells, process their gas and/or oil and water where they may go. We have that same inherent flexibility inherent in our business. Would we follow those rigs? Of course, we would. Your question may be more of third-party business. That's strictly the facts and circumstances of that third-party opportunity. We would never say never, certainly our MO, if you will, would be to follow those Anadarko rigs if they had to go somewhere.
Okay, great. Thanks. That's all for me.
Sure.
Our next questioner today will be Kyle May with Capital One Securities. Please go ahead.
Good morning. I was wondering if we could start out, I know 2019 CapEx is not official yet, but can you just give us a reminder on how much capital remains for the projects that you've already announced? Maybe a follow on, give us a sense of how much more infrastructure is needed in the Delaware to support Anadarko's activity as they transition to development mode.
Okay, I'll start, and then I may hand over for some additional detail. Mentone One is largely done. You're talking about commissioning being underway and start-up in the next few weeks. With Mentone Two in the first quarter, I would say the bulk of it has been completed, but there's still a decent chunk of capital there. In terms of our 2019 plans, which we'll address in more detail when we give guidance, I would say the bulk of the CapEx would be spent next year as opposed to this year. Those are the major projects.
Okay, got it. Thanks. Switching over to the crude NGL and water segment. Adjusted gross margin had a nice rebound when you look at the per-barrel contribution this quarter. What's your outlook for that as we move forward?
I'll let Jaime take that.
Yeah. The outlook on that would be as the water volumes continue to increase, we would expect that margin on average to continue to decline. That's just because the water business, even though it generates higher returns, it's a lower margin business on a dollar per barrel basis.
It's a gathering business instead of a long-haul transportation business.
Okay, any context around how much water is or how much on a percentage basis water makes up that segment?
Well, today we have 120,000-barrel capacity on the water business. We expect that to grow to about 180 by the end of next year. Then it's going to be a function of how that ramps up relative to the crude and NGL businesses and lines that we have.
It's in the 20%-25% range today, eyeballing it.
Okay, great. That's helpful. Thanks, guys.
The next questioner today will be Dennis Coleman with Bank of America Merrill Lynch. Please go ahead.
Yeah. Hi, good morning, and thanks for taking my question. Just, Ben, if you could, back to Proposition 112. I know we're sort of sitting here a week away, and there's no sense in talking about the outcome. Can you talk maybe a little bit about Colorado as a market and just the idea that this is the second election in a row where we've had these issues, and if the results come out and there's 40% of the population that does support something like this, it's hard to imagine that you don't see this again two years down the road and two years down the road after that. How do you think about that, maybe in the longer term as you think about Colorado?
Sure, Dennis. I'll really echo Anadarko's comments this morning, which is regardless of the outcome, there's still work to do, right? There's work to be done with the new administration, the new legislature. Whatever happens next week is more of a beginning than a chapter closing. I think we can be a little more detailed about those activities once we give full guidance and we know exactly what the situation is on the ground.
Okay. Just one housekeeping for me. The options on Red Bluff and Cheyenne Connector obviously three more months has passed. Any other incremental thoughts there?
We'll need to make an announcement one way or the other on Red Bluff in the fourth quarter. Watch this space. In the first quarter of 2019, we'll have to decide on the other option.
Okay. That's it for me. Thanks.
The next questioner today will be Spiro Dounis with Credit Suisse. Please go ahead.
Hey, yeah, just had one follow-up on the options, actually. Obviously, you have these two in the hopper now, and I know Jeremy asked about the drop-down inventory before, but if we could sort of think about it in terms of an option inventory. Do you guys foresee being able to replenish the options going forward? Seems like a really good sort of capital-efficient way to facilitate growth.
We would agree with that assessment, for starters. We are very fortunate that our sponsor has both the willingness and the commercial wherewithal to negotiate these types of options when they make commitments. To the extent there are future commitments to be made, we know we will at least ask the question and should have some leverage in that negotiation. The options that we are allowed to disclose, we have disclosed. There's really not much else we can say about other potential specific projects at this time.
Got it. No, that's fine. Thanks for taking the question again. Appreciate it.
This will conclude our question and answer session. I would like to turn the conference back over to Benjamin Fink for any closing remarks.
Thank you, everyone, for your support and your participation, and please be safe while trick-or-treating tonight. Have a great day.
The conference has now concluded. Thank you for attending today's presentation