EQT Sets New World Drilling Record; Deals to Sell 1.2 Bcf/d via MVP
By Jim Willis
EQT Sets New World Drilling Record; Deals to Sell 1.2 Bcf/d via MVP
October 27, 2023
EQT Corporation, currently the largest producer of natural gas in the U.S., provided its third quarter update yesterday. And wow! There is plenty to talk about. The company set another drilling world record of 18,264 feet in 48 hours, beating the existing world record set by EQT in the second quarter (see EQT Sets World Drilling Record; Tug Hill Deal to Close Next 30 Days). CEO Toby Rice announced the company recently signed two long-term deals with natural gas customers who will buy EQT’s molecules from the Mountain Valley Pipeline (MVP) when it gets completed. The two deals collectively add up to 1.2 Bcf/d heading to the southeastern U.S.
Another feather in EQT’s cap for 3Q23 is closing on the deal to buy Tug Hill Operating’s West Virginia assets for $4.6 billion (see EQT Finally Completes Acquisition of Tug Hill and XcL Midstream). According to yesterday’s update, EQT has achieved an approximately 40% drilling and completion efficiency improvement versus legacy Tug Hill performance in only 60 days of operating the assets, with the potential for up to $150 per foot of well cost savings. EQT hit the ground running with their new assets!
EQT boosted its production in 3Q to 523 Bcfe (billion cubic feet equivalent), up from 488 in 3Q22 (a 7% increase). That works out to be an average of 5.68 Bcfe/d. However, the price EQT received for its gas dropped like a rock (as it did for all gas drillers) last quarter. The average realized price for EQT’s production was $2.28 in 3Q23, down from $3.41 in 3Q22. The end result was, as you can image, less profit. EQT made $81 million in net income for 3Q23, down 88% from $687 million in 3Q22.
The company’s stock was upgraded to investment grade at Moody’s during 3Q, making EQT’s stock investment grade at all three credit rating agencies.
Looking to Q4, EQT estimates it will produce 525 – 575 Bcfe of gas (5.7 – 6.25 Bcfe/d). The company will operate 2-3 top-hole (vertical) rigs, 3-4 horizontal rigs, and 3-4 frac crews.
One more item to note: EQT has signed a deal to pay the State of West Virginia to plant new trees and better manage its forests. In return, EQT gets a big, fat carbon indulgence, getting EQT closer to mythical (frankly nonexistent) “net-zero.” What a scam.
We’ll begin with an article about EQT’s new deals to sell molecules via MVP:
EQT Corp. wasted no time in finding long-term homes for the natural gas that will be flowing through the Mountain Valley Pipeline once the oft-delayed pipes become operational early next year.
EQT (NYSE: EQT) reached what it termed “two of the largest, long-term physical supply deals ever executed” for the 1.2 billion cubic feet per day of EQT’s full supply on MVP beginning in 2027. Financial terms of the agreement weren’t announced, but EQT CEO Toby Z. Rice said on Thursday’s earnings call that it was with utilities.
“We believe (the deals) signified the buyers’ confidence in EQT’s unique ability to deliver reliable, clean and affordable natural gas supply to millions of customers in the southeastern part of the United States,” Rice said. “These agreements also highlight how EQT’s scale and depth of inventory are catalyzing the expansion of opportunities downstream of MVP, which will bring gas further into the Southeast demand centers where it is critically needed to replace coal-fired power generation and meet the region’s climate goals.”
One of the agreements is a 10-year, 800 million cubic feet per day capacity beginning in 2027, restructured from a previous agreement that had been for 525 million cubic feet per day on the MVP. Another utility, which EQT did not identify, also reached a separate 10-year pact for 400 million cubic feet per day of natural gas on MVP. It will also allow EQT access to better pricing for its natural gas than it would locally.
The deals are contingent on the building of pipelines to take the natural gas from the Mountain Valley Pipeline in Virginia to the other markets. It wasn’t clear whether that included the proposed expansion of Mountain Valley Pipeline into North Carolina, which is a project being considered by MVP’s builder, operator and part owner, Equitrans Midstream Corp. (NYSE: ETRN) in Canonsburg.
EQT is the largest customer of the Mountain Valley Pipeline, a 303-mile pipeline from northern West Virginia and through to western Virginia that will take southwestern Pennsylvania natural gas to markets in the Southeast. MVP, first announced in 2014, has taken a long and costly road to an expected completion in early 2024. The pipeline’s cost has ballooned from $3 billion to $7.2 billion, was delayed more than five years by court battles, and was only given permission to be completed by the U.S. Congress and the U.S. Supreme Court. (1)
EQT CEO Toby Rice had plenty to say during his prepared remarks on the quarterly conference call with analysts:
Toby Rice
Thanks, Cam, and good morning, everyone. The third quarter saw a multitude of positive highlights and record-breaking performance at EQT, including closing the strategic acquisition of Tug Hill and XcL Midstream in late August. As shown on Slide 5 of our investor deck, with roughly 60 days under our belt post closing, we currently have 74% of total integration milestones actions completed.
To put this in context, this is a record pace for EQT and the most efficient integration yet despite significantly greater deal complexity relative to Alta and Chevron. The successive improvement in our integration pace is reflective of leveraging lessons learned from previous transactions to refine our integration playbook, which is unique to EQT’s proprietary digital platform and is a repeatable process that we have honed with each successful acquisition.
I want to take a moment to send a huge shout-out to the EQT crew for all the hard work that has facilitated the incredible integration efficiency achieved over the past two months. Alongside efficiently integrating the Tug Hill and XcL Midstream assets, the teams have identified multiple areas of potential operational improvements that we did not contemplate when underwriting the acquisition. We broadly see these opportunities falling into two buckets comprised of well-designed and operational efficiencies. As it relates to operational efficiencies, I want to first talk about third quarter performance for stand-alone EQT and then provide some stats on what the teams have already achieved on the Tug Hill assets.
As shown on Slide 7 of our investor deck, after posting stellar second quarter operational performance, both our drilling and completions again set new internal and world records in 3Q. Recall last quarter, we highlighted EQT’s world record of drilling over 18,200 feet in 48 hours on the same run. This record lasted a mere 60 days as our team bested that effort by drilling 18,264 feet in 48 hours on our Denver 5H well in August.
On the completions front, our teams are firing on all cylinders with third quarter pumping hours per crew averaging north of 400 hours, which is an all-time high pace for EQT. This includes besting our prior record for monthly pumping hours twice during the quarter, with two crews each achieving north of 500 pumping hours in a month.
To put this into context, the theoretical maximum pumping hours in a month for a single frac crew is roughly 600 hours after accounting for minimum maintenance time, so our teams are knocking on the doorstep of perfection. This performance reflects our strategy of aggressively attacking all facets of the supply chain to eliminate as many bottlenecks as possible for our completions team, and our Q3 execution underscores the dividends accruing from these efforts.
Turning back to Tug Hill. As shown on Slide 6 of our investor deck, our teams are wasting no time unleashing EQT’s industry-leading operational progress as we’ve taken over the assets. To put some numbers around this, in just 60 days since taking over operations, our completions team has already increased the amount of stages completed per day by 35% relative to legacy Tug Hill development, and we see room for additional upside as our teams optimize water handling and sand logistics across the asset base.
On the drilling front, since taking over operations, our team has already improved horizontal drilling speeds by 50% relative to legacy Tug Hill performance and driven down horizontal drilling cost per foot by more than 40%. As we high-grade equipment and fully implement EQT best practices, we expect further efficiency gains that will allow us to drop drilling activity on Tug’s acreage from two rigs to one by the end of the year all while still drilling the same amount of lateral footage year-over-year in 2024.
Our teams also plan to methodically test various EQT well-design changes on the Tug Hill assets, including cluster spacing, clusters per stage, proppant loading, proppant type and casing weight, to name a few. While it’s still early to quantify the full impact of efficiency gains and operational synergies on the Tug Hill assets, we preliminarily see the potential for up to $150 per foot of well cost savings associated with these efforts.
The potential impact from optimizing well design parameters and improving operational efficiencies represent value creation upside on top of the $80 million of synergy value potential we announced with the deal. As a reminder, the original synergies we discussed were only driven by water system integration, firm transport optimization and land spend efficiencies, which should accrue over the next several years.
Looking ahead to 2024, while we are still in the process of fine-tuning our pro forma operation schedule, we preliminarily expect to run three horizontal rigs and three to four frac crews in total next year, which is a level of activity that maintains production at approximately 2.3 Tcfe per annum. At current strip pricing of approximately $3.40 per million BTU next year, we preliminarily see roughly $1.7 billion of pro forma free cash flow in 2024 and cumulative free cash flow of approximately $14 billion from 2024 to 2028.
As shown on Slide 11 of our investor deck, this equates to cumulative free cash flow of approximately 60% of our enterprise value, which is the highest not only among our gas peers, but also the broader upstream energy sector. We believe this outlook underscores the tremendous absolute and relative value proposition of EQT shares even after strong relative stock performance over the past several years.
Shifting gears to Slide 8 of our investor presentation, we are excited to announce that we have signed two 10-year firm sales agreements with investment-grade utilities covering all 1.2 Bcf per day of our capacity on MVP that will commence concurrent with the completion of downstream expansion projects in 2027.
Recall, we had previously entered into an AMA for 525 million cubic feet per day of our MVP capacity, which we have restructured into an 800 million cubic feet per day, firm sales arrangement with the same counterparty and entered into an additional 400 million cubic feet per day firm sale with a separate counterparty. These are two of the largest long-term physical supply deals ever executed in the North American natural gas market, and we believe signal the buyers’ confidence in EQT’s unique ability to deliver reliable, clean and affordable natural gas supply to millions of customers in the southeastern part of the United States.
These agreements also highlight how EQT’s scale and depth of inventory are catalyzing the expansion opportunities downstream of MVP, which will bring gas further into the Southeast demand centers where it is critically needed to replace coal-fired power generation and meet the region’s climate goals. To put the environmental benefits into perspective, assuming EQT’s natural gas displaces coal-fired power generation, the combined impact of these supply agreements would result in approximately 40 million tons per annum of emissions reductions, which is equivalent to taking more than 8 million gasoline-powered vehicles off the road every year.
On top of the environmental benefits, these deals should create a win-win economic impact, providing cash flow uplift for EQT while concurrently dampening natural gas price volatility for consumers in the Southeast region. Recall, our capacity on MVP will initially receive pricing at Station 165, but as downstream projects and these new firm sales arrangements commence, EQT’s capacity will be debottlenecked and our pricing exposure will shift to a blend of premium demand areas, including Henry Hub and Transco Zones 4 and 5 South. To put the impact of this in context, we see these firm sales arrangements and associated downstream debottlenecking projects increasing our annual free cash flow by more than $300 million beginning in 2028.
At the same time, the debottlenecking of EQT supply further into the Southeast should dampen natural gas price volatility for consumers in the region, improve grid reliability and materially reduce the risk of service interruptions. In our view, these agreements represent clear and tangible examples of EQT’s ability to generate differentiated shareholder value out of each molecule while simultaneously fostering better outcomes for American consumers by leveraging our unique platform consisting of peer-leading scale, a strong investment-grade balance sheet, low cost structure, deep high-quality inventory and advantaged environmental attributes.
Turning to LNG. Last month, we announced a heads of agreement for liquefaction services from Commonwealth LNG facility in Cameron Parish, Louisiana to produce 1 million tons per annum of LNG under a 15-year tolling agreement. This comes on the heel of a prior HOA with Lake Charles LNG and upon completion of definitive agreements will take our total committed LNG tolling capacity to 2 million tons per annum or roughly 270 million cubic feet of gas per day. The Commonwealth agreement is a continuation of our LNG strategy we described on our last call, which entails diversifying a portion of the 1.2 Bcf per day we delivered to the Gulf Coast via firm pipeline capacity into international markets.
As a reminder, EQT is pursuing a differentiated and more integrated approach to international exposure through tolling arrangements, which we believe provide the best combination of upside exposure with downside risk mitigation. Our strategy gives us direct connectivity to end users of our gas globally, allows for end market structuring flexibility and superior downside protection.
We are currently pursuing signing SPAs with prospective international buyers as well as additional opportunities to increase our tolling exposure. Our scale, low-cost structure, peer-leading core inventory depth and environmental attributes uniquely position us to compete and win in the global energy arena. And we believe the international market will increasingly covet EQT’s molecules as a long-duration secure supply source that can drive meaningful emissions reductions via coal displacement, similar to the precedent we are setting in the U.S. Southeast market with our newly announced firm sales agreements directly with utilities.
Shifting to Slide 16 of our investor deck, we recently announced a first-of-its-kind public-private partnership with the state of West Virginia to identify and implement forced management practices across the state. Facilitated by the state’s Department of Commerce, Division of Forestry and Division of Natural Resources, the partnership brings together EQT’s transparent, data-driven approach to emissions reduction and West Virginia’s commitment to the conservation, development and protection of its renowned forest lands to advance Appalachia’s position as a premier world partner in decarbonization. We plan to deploy advanced soil probe technology from our partners at Teralytic, which allow for real-time soil measurement to ensure the quantification of carbon reduction is accurate and transparent.
We will also leverage our strategic partnership with Context Labs to provide full digital integration and accountability of our carbon reduction effort. Operational efficacy of these projects will be assured and audited by West Virginia University’s Natural Resources Analysis Center, a multidisciplinary research and teaching facility. We believe the processes being deployed in our partnership with West Virginia will create one of the highest-quality, most verifiable nature-based carbon sequestration projects anywhere around the globe. The output of this effort will be a key enabling factor for EQT to become the first energy company in the world of meaningful scale to achieve verifiable net zero Scope 1 and 2 GHG emissions.
Turning to Slide 17 of our investor presentation, we were excited to see the Appalachia Regional Clean Hydrogen Hub, or ARCH2, recently selected as one of seven hydrogen hubs in the country to receive DOE funding to accelerate the deployment of U.S. hydrogen technologies and contribute to decarbonizing multiple sectors of the economy. As a reminder, ARCH2 is a collaboration initiated by EQT, the state of West Virginia, Batel, GTI Energy and Allegheny Science and Technology. The broader ARCH2 team is comprised of multiple entities with operations across the Appalachian region, spanning the hydrogen value chain as well as technology organizations, consultants, academic institutions, community organizations and NGOs that will provide commercial and technical leadership for the development and build-out of the hub.
The DOE has allocated up to $925 million to ARCH2, noting the hub will leverage the region’s ample access to low-cost, low emissions natural gas to produce clean hydrogen and permanently sequester CO2. Along with the decarbonization impact, ARCH2 is anticipated to facilitate various community benefits, including the potential to create more than 21,000 high-paying jobs. The selection of ARCH2 deeply reinforces the critical role natural gas, particularly Appalachia natural gas, will play in our nation’s transition to a lower carbon energy future, and EQT is uniquely positioned to be at the forefront of this process.
In terms of EQT’s participation, we are in the early stages of formulating a high-level development plan with rigorous assessment of project economics to better understand value creation potential, and we expect minimal capital requirements over the next couple of years. Over the medium term, EQT will have significant optionality to evaluate and participate in projects within the ARCH2 hub all while retaining complete flexibility as it relates to our level of exposure. Outside of our direct participation, we expect ARCH2 will also have second-order effects of driving greater in-basin demand for EQT’s low emissions natural gas and could present opportunities for us to leverage our subsurface expertise and 1.9 million net acreage position for CO2 sequestration.
While still very early in the evolution of ARCH2, we believe EQT’s participation in the hub, along with various other pillars of our new venture strategy, are planting the seeds that have the potential to catalyze the transformation of natural gas into the holy grail of cheap, reliable and zero carbon energy. (2)
After EQT CFO Jeremy Knop delivered his prepared remarks, Toby returned with this conclusion:
Thanks, Jeremy. To conclude today’s prepared remarks, I want to reiterate a few key points. Number one, the momentum and gravity at EQT right now is unrivaled, and I have never felt anything like it in my career. We are executing at record levels, signing historic physical supply deals that simultaneously maximize the value of each molecule and provide secure supply to end customers while cutting emissions and executing on a vision to create the preeminent low-cost producer of natural gas on the global stage.
Second, integration of the Tug Hill and XcL assets is blazing ahead at record pace, which speaks to the power of our proprietary digital platform and continued refinements of our integration playbook. Third, after a stellar second quarter, our drilling and completions teams yet again set new internal and world records in Q3.
Fourth, this superior operational execution is facilitating additional value creation potential on the Tug Hill assets, with EQT’s team already improving drilling and completion efficiency by 40% in just 60 days of operating the assets, driving the potential for $150 per foot of well cost savings.
Fifth, the firm sales agreements we announced associated with our MVP capacity are materially accretive to our long-term free cash flow outlook and shareholder value and highlight the differentiated opportunities arising from EQT’s peer-leading scale, low cost structure, inventory depth and environmental attributes.
And finally, sixth, our first-of-its-kind public-private forced management partnership with the State of West Virginia should create one of the highest quality, most verifiable nature-based carbon sequestration projects and should help facilitate EQT becoming the first energy company in the world of meaningful scale to achieve net zero emissions. (2)
The first question during the Q&A portion of the call was about the two new deals to sell EQT molecules via MVP:
Umang Choudhary
Hi. Good morning. Thank you for taking my questions. The firm sales contract on the Mountain Valley Pipeline is notable, given it improves the company’s long-term supply cost positioning, which I assume is not completely reflected on Slide number 12. So a couple of questions here. Like how did this deal come together? Is there potential for similar opportunities in the future? And also if you can help investors get a better sense of the risk in achieving the free cash flow uplift of more than $300 million.
Toby Rice
Hi, Umang. This is Toby. Let me just put some broader color on what’s happening in the United States, and then I’ll kick it over to Jeremy for more of the details. Over the last 10 years, we’ve seen natural gas demand grow about 50% in this country. During that period of time, the pipeline capacity that’s been built has only grown about 25%. And so it shows the drive from a need for more pipeline infrastructure that would lead to opportunities like this going forward. Jeremy, do you want to cover some of the more detailed points about this transaction, how it came together?
Jeremy Knop
Yes, absolutely. So this is something we’ve been working on for several months, and it’s part of just our ongoing commercial strategy to really find opportunities like this. If you want to think about it at a high level, we’re effectively taking 1.2 Bcf a day of volume that’s currently being sold in the local M2 market. And instead, through these transactions, the net effect is selling that at about a NYMEX minus $0.40 type differential when you take into account the premium in-market pricing we’re getting and the cost to transport it there on MVP. That gets you to that, call it, $0.15 to $0.20 of all-in company-wide differential improvement in 2028 and beyond. And that’s what gets that $300 million just in total of annual cash flow uplift. (2)
Rice was asked for his views on consolidation in the O&G industry. He’s a fanboy:
John Abbott
Good morning, and thank you for taking our questions. Toby, there’s been a lot of press speculation recently about further industry consolidation even between gas companies. How do you think about industry consolidation from here and how do you see EQT’s potential role in that?
Toby Rice
Well, my view hasn’t changed. We think consolidation is a tool, when used correctly, to create a lot of value for shareholders. I think you look at the track record that we’ve established over the past few years, we’ve done really smart deals and we’ve created a lot of value. Look at the Tug Hill acquisition, we are focused on lowering our cost structure. Those assets have lowered our cost structure by about $0.15 pre-synergies. So the operational efficiencies that we’re demonstrating now will be additive on top of that, improved our long-life inventory and also making the energy cleaner.
Tug Hill ran a pretty clean program but now these assets are going to be incorporated into our net zero goal, so make the energy we produce cleaner as well. So I think every opportunity has to be looked at, at a stand-alone basis. But for us, the guiding light is always what can we do to lower our cost structure, make us a better business, produce more reliable and cleaner energy. And we’ll be disciplined and continue to wait until we see anything that looks attractive to us. (2)
A question about the “crown jewel” of the Tug Hill deal, which was the XcL Midstream subsidiary:
Arun Jayaram
Yes. Good morning. Toby, the crown jewel of the Tug Hill deal was the XcL Midstream system. I wanted to get your thoughts on value creation opportunities from integrating the midstream further in terms of internal and third-party opportunities. Obviously, it is going to help your cost structure as you highlighted as well.
Toby Rice
Yes. Arun, we’re excited about the potential for this asset base and the leadership team we picked up to create value in this area. But I’d say as we’re looking for more investment opportunities that will generate pretty attractive low-risk returns that we’re looking for, we’re going to continue to just keep pushing the ball along and capturing those synergies that we identified. That Clarington Connector is something that’s top of mind for us, looking to accelerate any water debottlenecking.
One thing that’s really important to just highlight is a lot of the completion efficiency gains have come from debottlenecking water. So that will be – continue to be a big focus there on that front. And hopefully these investments in water infrastructure will give us an opportunity to continually come back and talk about the cost savings, both on an LOE front and the completion side of things.
From a third-party business opportunity, this team is definitely capable and with our systems that we have, we’re able to provide those opportunities to others where it makes sense. But one of the things with a really large contiguous acreage position is third-party opportunities are limited, but if they do pop up, we’ve got our eyes out for them and we’ll be taking advantage of those. (2)
Rice claimed EQT could save $150/foot with new Tug Hill drilling. How?
Michael Scialla
Good morning, everybody. Wanted to see, you talked about the potential for the $150 per foot of savings with the operational efficiencies that you’re applying to the Tug Hill assets, what needs to happen for that to become a reality? And I guess where are those relative costs based on the wells completed there so far?
Toby Rice
Well, the cost savings that we had, the $150, about half of that is operational efficiency, the other half is well design. So for that to materialize, we need to continue executing in the field and putting up some big numbers on drilling speeds and completion pace, obviously doing it as safely as possible to accomplish that.
The other thing I’d say on the well design side of things, that’s probably going to take a little bit more time to materialize because we will take a more methodical pace on the science. We don’t just run out and make all the changes at once. So there’ll be some monitoring time observed there. But when you step back and think about these type of operational synergies that we’ll achieve, the $150 a foot could translate to about $50 million of total spend, which would translate to about, call it, $0.02 to $0.03 lower on our cost structure on top of the previously planned $0.15. So I hope that adds some more color to your question. (2)
Long or short laterals?
Bertrand Donnes
Those are a lot of great points. Thanks, guys. And then maybe shifting gears a little bit. It looks like you’re drilling slightly shorter laterals in 4Q versus 3Q, but you’re still completing or turning in line maybe some longer laterals. So could you talk if there’s a strategy shift there or if that’s just a quarterly blip and you’re still targeting longer laterals?
Toby Rice
Yes. We’re still targeting longer laterals. There will be variances quarter-to-quarter and that’s sort of what you maybe seeing here. But the strategy has not changed. The strategy to continue to leverage common development and unlock the scale of our asset base is still being top of mind and applied every day. (