EUR 850.00 For Business Accounts Only

Morningstar | Antero Resources on the Verge of Generating Free Cash Flows

Antero Resources delivered production of 2,718 mmcfe/d in the third quarter, which was 8% higher sequentially and 17% higher year over year. This was about 5% below our forecast of 2,868 mboe/d, although after factoring in 86 mmcfe/d of involuntary curtailments the deficit was only 2%. According to management, the oil-hauling constraint causing the curtailments has already been fully addressed (via trucking contracts to ensure that the firm has sufficient capacity going forward). Accordingly, there was no change to full-year guidance. In any case, because of stronger-than-expected pricing, the firm’s financial results for the period were ahead of consensus estimates anyway (adjusted EBITDA and adjusted earnings per share were $497 million and $0.23, respectively). After incorporating the update, our fair value estimate has slipped to $20 per share from $21.

On the conference call, management addressed the previously announced simplification transaction related to its fully consolidated MLP subsidiary, Antero Midstream, or AM. Currently, the parent holds 53% of the LP units of AM (approximately 100 units). But the incentive distribution rights accrue to the AM GP, which is owned separately. According to the agreed terms, the GP will acquire the LP in a cash and equity deal. The parent will receive $3 per LP unit and 1.6023 shares of the GP, which will convert to a C-corp. That leaves Antero Resources, AR, owning 31% of the combined midstream entity, with cash proceeds of around $300 million. In a nutshell, this unlocks value upfront, eliminates the eventual IDR drag on AM cash flows, and aligns the interests of AR shareholders and management (which has significant GP holdings).

We agree with management’s view that the fourth quarter of 2018 is an inflection point for free cash flows, factoring in the likely strengthening of realized NGL prices following the entry into service of the Mariner East 2 pipeline (expected in the fourth quarter). Supplementing these cash flows with the cash proceeds of the simplification transaction will fund the previously announced $600 million repurchase program. We believe shares are about 20% undervalued, making this a sensible use of the cash even though the standalone exploration and production business still has above-average leverage (the weighted average coupon on Antero’s notes is only 4.4%, and due to its projected growth the E&P’s leverage will decline fairly quickly even if it redeploys all of its surplus cash flows).