© 2024 Alpha Spread Limited. All Rights Reserved.
www.alphaspread.com is not operated by a broker, a dealer, or a registered investment adviser. Under no circumstances does any information posted on www.alphaspread.com represent a recommendation to buy or sell a security. The information on this site, and in its related newsletters, is not intended to be, nor does it constitute, investment advice or recommendations. The information on this site is in no way guaranteed for completeness, accuracy or in any other way. In no event shall Alpha Spread Limited be liable to any member, guest or third party for any damages of any kind arising out of the use of any content or other material published or available on www.alphaspread.com, or relating to the use of, or inability to use, www.alphaspread.com or any content, including, without limitation, any investment losses, lost profits, lost opportunity, special, incidental, indirect, consequential or punitive damages. Past performance is a poor indicator of future performance.
You don't have any saved screeners yet
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good afternoon. My name is Lauren, and I will be your conference operator today. At this time, I would like to welcome everyone to the Midstream Fourth Quarter and Full Year 2021 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the conference over to Kristen Shults, Senior Vice President, Finance and Sustainability. Please go ahead.
Thank you. I’m glad you could join us today for Western Midstream’s Fourth Quarter and Full Year 2021 Conference Call. I’d like to remind you that today’s call, the accompanying slide deck and last night’s earnings release contain important disclosures regarding forward-looking statements and non-GAAP reconciliations. Please reference Western Midstream’s most recent Form 10-K and other public filings for a description of risk factors that could cause actual results to differ materially from what we discuss today. Relevant reference materials are posted on our website. Additionally, I’m pleased to inform you that the Western Midstream Partners’ K-1s will be available on our website beginning March 4th. Hard copies will be mailed out several days later. With me today are Michael Ure, our Chief Executive Officer; and Craig Collins, our Chief Operating Officer. I’ll now turn the call over to Michael.
Thank you, Kristen, and good afternoon, everyone. Yesterday, we were pleased to report another strong year of operational and financial performance at Western Midstream, despite the negative impacts from winter storm Uri that we experienced in the first half of the year. We also announced our 2022 guidance and refined our corporate financial policy by establishing an annual enhanced distribution payable in conjunction with the first quarter base distribution starting in 2023, both of which I will discuss in more detail later in the call. Turning to the fourth quarter. Volumes across all three products increased sequentially, primarily driven by continued outperformance from the Delaware Basin and higher volumes on our equity investment assets. As a result, we materially exceeded our year-end exit rate throughput expectations for crude oil, natural-gas liquids and produced water and met our expectations for natural gas. Adjusted EBITDA for the fourth quarter totaled approximately $481 million. This 10% sequential decline was due primarily to the following: In the third quarter, we recorded a favorable onetime catch-up revenue adjustment of $19 million associated with previously constrained revenue and $26 million of unfavorable revenue recognition cumulative adjustments recorded in the fourth quarter associated with lower cost of service rates, predominantly at the DJ Basin oil system. These are noncash adjustments impacting adjusted EBITDA and net income attributable to limited partners, but do not impact free cash flow. We also had a very strong quarter from a cash flow perspective. Cash flow from operations totaled $662 million, resulting in $577 million of free cash flow generation. This material increase in free cash flow compared to the prior quarter was primarily due to increased throughput and favorable working capital changes. Turning our attention to full year 2021, we are proud to have surpassed all of our financial metric expectations. We recorded adjusted EBITDA of approximately $1.95 billion which exceeded the high end of our $1.825 billion to $1.925 billion guidance range. This was primarily driven by producer outperformance in the Delaware Basin, stronger-than-expected commodity prices, commercial success in adding third-party customers and realized cost efficiencies across our business. This positioned WES to deliver operating cash flow of approximately $1.77 billion, an increase of 8% year-over-year. During the year, we remained focused on diligently allocating capital between our various pillars of capital return, while still fulfilling the needs of our organization. In addition to certain projects pushing into 2022, our teams also worked hard to enhance capital efficiencies. As a result, our capital expenditures for the year totaled $324 million, well within our $275 million to $375 million guidance range. This continued focus on capital efficiency helped us generate approximately $1.5 billion of free cash flow and $956 million of free cash flow after distributions. We used much of our free cash flow position to further reduce leverage meaningfully exceeding our year-end 2021 leverage ratio target of 4.0 times through the retirement of $431 million of senior notes due in 2021 and the tendering of $500 million of senior notes due 2022 through 2026. These actions enabled WES to achieve a year-end leverage ratio of 3.6 times or 3.5 times on a net basis after taking into account the $202 million of cash on our balance sheet at year-end. Our continuous focus on diligently reducing leverage provides multiple benefits. In January 2022, we received an upgrade for WES Operating’s long-term debt to BBB minus from Standard & Poor’s. The Partnership’s first investment-grade rating since the pandemic-driven downgrades in 2020, which will increase the Partnership’s access to debt capital markets under more favorable pricing structures going forward. We increased the distribution 5% year-over-year, paying a $1.27 per unit cash distribution, meeting our per unit cash distribution guidance of at least $1.24. Finally, we completed our $250 million unit repurchase program by repurchasing 13.6 million units in 2020 and 2021 at an average unit price of $18.41, an approximate 29% discount to our current unit price of $25.81 as of February 18th. Since becoming a standalone midstream enterprise, we continue to make tremendous progress in strengthening our balance sheet and generating value for our unitholders. Since the January 2020 bond issuance, we have retired $1.15 billion of our debt or 14% of the debt balance and 41.4 million units or approximately 9% of the unit count. We have also paid out approximately $1.2 billion in distributions to both, our limited and general partners, all of which have resulted in $2.9 billion of total capital returned or approximately 18% of our year-end 2021 enterprise value, generating substantial value for our unitholders. On a per unit basis, we have now returned $4.02 through debt retirement and unit repurchases and $2.98 in distributions for a total of $7 returned to unitholders since the onset of the pandemic, which excludes any market-driven appreciation in our current unit price. With that said, assuming our current unit price as of February 18th, we have repurchased the equivalent of $1.1 billion of our current market valuation. Generating value and returning cash to our unitholders while protecting the health of our balance sheet continues to be the top priority for our Partnership. With this in mind, we’re excited to discuss our refined financial policy and enhanced distribution structure. We believe our financial policy provides a clear path that details how we intend to create additional value for our stakeholders as we generate significant free cash flow over the coming years. We are proud of the value that we’ve already created, and this policy is expected to further deleverage the enterprise and return additional capital to unitholders. Our value generation will continue to revolve around our three core pillars of reducing leverage, increasing the distribution and repurchasing units. As such, we anticipate taking the following actions. First and foremost, we expect to retire over $715 million of aggregate principal amount of senior notes with approximately $502 million due in 2022 and $213 million due in 2023, using free cash flow. In addition, we’re incentivized to achieve year-end net leverage of 3.4 times in 2022, 3.2 times in 2023 and 3.0 times in 2024 on a net debt to trailing 12-month adjusted EBITDA basis as part of our refined financial policy. We believe achieving an ultimate net leverage of 3.0 times will allow us to better navigate and opportunistically capitalize on future market dislocation. Based on current market conditions and estimates, we plan to declare a quarterly base distribution of $0.50 per unit, effective with our first quarter 2022 distribution, which is an increase of approximately 53% compared to the distribution declared in the fourth quarter of 2021. The new base distribution will result in an annualized cash distribution of $2 per unit. Based upon our multiyear forecast, we feel confident that the distribution increase is sustainable and allows for remaining free cash flow after the distribution to be directed toward our other core pillars of capital return. Since we completed our previous repurchase program at the end of 2021, we plan to commence a new $1 billion unit repurchase program that we intend to opportunistically execute through year-end 2024. We believe our new repurchase program will be an integral part of our financial policy, enabling us to generate additional value for our unitholders through varying market conditions. Finally, beginning in 2023, we have established a framework for paying an annual enhanced distribution in conjunction with the first quarter base distribution. The target amount of this enhanced distribution will be equivalent to free cash flow in the previous year after subtracting the prior year’s debt repayments base distributions and unit repurchases. It is also contingent on attaining the prior year-end net leverage thresholds after taking the enhanced distribution for such prior year into effect of 3.4 times in 2022; 3.2 times in 2023 and 3.0 times in 2024. The enhanced distribution will be paid only if we reach our stated leverage threshold and generate excess free cash flow after taking into account the previously mentioned items. As always, distributions are subject to the Board’s review and approval. Since becoming a publicly traded partnership, we’ve consistently returned available cash back to our unitholders. The enhanced distribution structure allows us to accelerate the return of capital to our unitholders. Keep leverage and the health of our balance sheet central in all decision-making and provide additional clarity to the unitholders as we continue to generate significant annual free cash flow into the future. To the extent leverage increases because of internal or external factors, the excess free cash flow that would have been directed towards the enhanced distribution would be used to reduce leverage, thereby ensuring the sustainability of the enterprise. Our ability to meaningfully increase the base distribution and establish an enhanced distribution structure is a direct result of our constant focus on reducing costs, increasing operational efficiencies and maintaining a disciplined approach to capital spending. This provides us a great foundation and positions us well to drive net leverage down to 3.0 times by 2024. The annual enhanced distribution structure strengthens our overall financial policy and demonstrates our strong commitment to maintaining balance sheet health and returning value to unitholders. It is a distinct competitive advantage for WES and further differentiates us from our peers. Turning to 2022. Strong commodity prices continue to support private and public producer activity levels as we transition into the new year. We expect the Delaware Basin to comprise 50% of our asset level EBITDA for 2022 as strong throughput continues. In the DJ Basin, we remain optimistic regarding the permitting process for new wells, but the slow pace of approvals continues to be a headwind for activity levels and we currently expect the basin declines we experienced at the end of 2021 to continue into 2022. We expect the DJ Basin to contribute approximately 30% of our asset-level EBITDA in 2022. We anticipate 2022 adjusted EBITDA to range between $1.925 billion and $2.025 billion, predominantly due to our expectation of increased year-over-year Delaware Basin throughput. Lower cost of service rates across the portfolio, coupled with lower distributions from our equity method investments will partially offset the adjusted EBITDA uplift we would expect to see as a result of increasing Delaware Basin throughput. As a reminder, anticipated increased activity levels beginning in 2023 and continued focus on cost and capital efficiencies drove cost of service rates lower across the portfolio, effective January 1, 2022. Additionally, we are seeing increasing operational expenses in line with the continued expansion of our Delaware Basin asset footprint and inflationary pressures, specifically for chemicals and maintenance and repair projects. Craig will focus on the details of our capital spending plan shortly, but I want to express my excitement regarding expected future activity levels. The increase in 2022 capital requirements is a result of our preparation for these increased activity levels, which we expect to begin in 2023. Thus, we have set our 2022 capital at a range of $375 million to $475 million. Taking both our adjusted EBITDA and capital spending guidance into account, we expect to generate free cash flow of $1.2 billion to $1.3 billion in 2022, which will provide more than enough liquidity to retire our 2022 debt obligation and fund our $2 per unit annualized base distribution. I’ll now turn the call over to Craig to discuss our operational performance. Craig?
Thank you, Michael. 2021 was a strong year operationally for WES. For the second consecutive year, we maintained system availability over 99%, and our full year exit rates for all products met or surpassed our expectations. Our natural gas, crude oil and natural-gas liquids and produced water exit rates were 6%, 13% and 21%, respectively, higher than our 2020 exit rates. These exit rates were driven by continued outperformance in the Delaware Basin, and we expect these activity levels from our producers in the basin to continue in 2022. Overall, gas throughput increased by 3% or 123 million cubic feet per day on a sequential quarter basis. Full year 2021 natural gas throughput averaged 4.148 billion cubic feet per day, representing a 3% decrease from full year 2020. This decrease was primarily due to the Bison asset sale completed in the second quarter, lower throughput in the first quarter as a result of winter storm Uri, and production declines in our South Texas and Southwest Wyoming assets. Our crude oil and natural-gas liquids throughput increased by 10% on a sequential quarter basis or 61,000 barrels per day, primarily due to outperformance in the Delaware Basin and in our equity method investments. Full year 2021 throughput for crude oil and natural-gas liquids assets averaged 659 million barrels per day, representing a 6% decrease from full year 2020. This was primarily due to lower production in the DJ Basin and South Texas oil systems, lower throughput in the first quarter at the Delaware Basin oil system as a result of winter storm Uri and decreased throughput on our equity method investments. Produced water throughput increased by 8% or 57,000 barrels per day on a sequential quarter basis. Full year 2021 throughput for produced water assets averaged 703 million barrels per day, a 1% increase from full year 2020, due to higher production and commercial success in West Texas. Our per-Mcf adjusted gross margin for natural gas assets increased by 7% year-over-year or $0.08. Our 2021 average was $1.24, primarily due to higher average fees resulting from cost of service rate redeterminations, effective January 1, 2021, in the West Texas complex and South Texas assets. These increases were offset partially by decreased throughput on certain fee-based contracts with the DJ Basin complex, which has a higher-than-average per-Mcf margin as compared to our other natural gas assets. Decreased throughput on certain fee-based contracts in the DJ Basin also led to a $0.05 sequential quarter decline in our per-MCF adjusted gross margin. Our per barrel adjusted gross margin for crude oil and natural-gas liquids assets decreased by $0.26 year-over-year. Our 2021 average was $2.28, driven by an annual cost of service rate adjustment made during the fourth quarter of 2021 at the DJ Basin oil system. These decreases were offset partially by a higher cost of service rate, effective January 1, 2021, at the Springfield system. Additionally, the annual cost of service rate adjustment made at the DJ Basin oil system also contributed to a sequential quarter decrease of $0.74 per barrel. Without this cost of service rate adjustment, the per barrel adjusted gross margin for the fourth quarter would have been $2.25 per barrel versus $1.78 per barrel. Our per-barrel adjusted gross margin for produced water assets decreased by $0.05 year-over-year. Our 2021 average was $0.93, primarily due to a lower average fee resulting from a cost of service rate redetermination, effective January 1, 2021. Before I discuss 2022 expectations regarding activity and capital requirements, I want to take a minute to highlight our team’s tremendous work in 2021. After persevering through the start of the pandemic and our transition as a standalone midstream entity in 2020, we started 2021 off with another significant hurdle, winter storm Uri. Our operations, engineering and commercial teams worked tirelessly to maintain safe operations, communicate constantly with our producers and limit interruptions to service as much as possible. Quite often while dealing with storm-related challenges at their own homes. Our employees showed tremendous dedication, commitment and resilience, and their passion towards excellence continued throughout the year and played a significant role in our full year financial and operational results. Commercially, the team created incremental value through their desire to expand the portfolio and their work in maintaining outstanding relationships with producers. Throughout the year, we added six new customers to our gas portfolio and four new customers to our water business, bringing in approximately $30 million of adjusted EBITDA in 2021, and an expected $74 million for 2022. The long-term gas gathering and processing agreement with Crestone Peak Resources, now Civitas Resources, was the team’s largest success whereby approximately 74,000 acres in the Watkins area were dedicated to WES as well as up to 148,000 additional acres that may be acquired and connected to our gathering system in the future. Operationally, our teams exceeded our internal goal for system reliability for the second consecutive year, demonstrating our ability to consistently provide flow assurance for our customers and limit producer flaring. Additionally, for the second consecutive year, the GPA Midstream Association awarded us first place for safety in the division one category for companies with greater than 1 million reported man-hours worked. We continue to focus on safe, sustainable operations and opportunities to further reduce our emissions and carbon footprint. From an engineering perspective, we continue to concentrate on disciplined project, execution and increased cost savings. Both efforts led to creative and capital efficient solutions like the income capacity increase at our regional oil treating facilities that we highlighted during the third quarter. This focus throughout the year largely contributed to our success in achieving capital expectations for 2021. Turning to 2022. We expect throughput levels in the Delaware Basin to increase across all product lines because of high producer activity levels continuing into 2022. Both our private and public producers continue to allocate meaningful capital to the Delaware, and we believe that trend will continue into next year. As of our latest forecast, we expect producers to add approximately 280 wells this year in the Delaware Basin, which is a meaningful increase relative to the number of wells we were expecting in 2021 at this time last year. Therefore, as I’ll discuss on the next slide, we’re employing additional capital to the basin to service its projected incremental volume and expected activity increase beginning in 2023. In the DJ Basin, we expect limited activity to continue throughout 2022 as producers have indicated a slower time line than initially anticipated with the new permitting process and regulations. While producer sentiment remains optimistic on the approval of new permits, they have adjusted their forecast to better represent the extended timing of such approvals. Therefore, we now expect throughput levels to decline for the year for both, natural gas and crude oil, barring any acceleration by producers that may result from a change in permitting time lines. Portfolio-wide, we expect 2022 year-end exit rate throughput for water, gas and oil to grow by high-teens, low-single-digits and remain relatively flat, respectively, as compared to 2021 exit rates. As we assess the dynamic climate in Colorado around carbon emissions, we’re pleased to report that our carbon emissions intensity ranked in the top quartile relative to our peers, based on reported greenhouse gas combustion emissions per million cubic feet of gas transported by gathering and boosting sector operators. This is a significant accomplishment as one of the largest midstream gatherers in the state. This low-carbon intensity ratio highlights our focus on electric-driven compression and far outperforms our peers. We believe that with our proactive facility design tailored to reduce environmental impact that we are well positioned to adapt to any potential new emissions regulations in the state and have a significant competitive advantage over our peers. Across our portfolio, we continue to put sustainable operations, our social license to operate and carbon emissions at the forefront of our business. To further showcase our commitment, we’ve added a corporate goal to reduce methane emissions by 5% across our operations on an annualized basis by year-end 2022. We expect this to be one of many actions taken this year to address ESG issues and strengthen sustainability at WES. Turning toward our 2022 capital guidance, increased throughput in 2022 and higher producer activity levels anticipated for 2023 in the Delaware Basin have led us to increase our capital expectations relative to 2021. We expect that the majority of our capital spend, about 70% will go to the Delaware Basin for additional infrastructure across all of our systems to service their forecasted growth. Most of that capital is dedicated to well connects and system expansions, including saltwater disposal wells and natural gas compression. We’re also dedicating over $44 million of capital to technologies necessary to transform WES into a superior standalone midstream organization. These investments will help WES transition away from systems initially designed for an E&P company to those suited for a midstream entity, allowing us to enhance employee development and safety, increased operational efficiencies and minimize our environmental impact. Finally, we’ve allocated $29 million targeting sustainability projects designed to reduce emissions and support our new corporate goal. For example, we are completing modifications to compressor engines at our Wattenberg gas plant in Colorado to significantly reduce annual NOx emissions. In addition, we are allocating a portion of this capital towards projects we have identified to reduce methane emissions across our asset base. With that, I’d like to turn the call back over to Michael. Michael?
Before we open it up for Q&A, I would like to reiterate a few key points. First, we have a strong asset base that is well positioned to capitalize on increasing producer activity, especially in the Delaware Basin. The strong commodity price environment and our commercial track record positions us well for increased throughput in 2022 and beyond. Second, we expect to generate substantial free cash flow over the coming years, and we plan to employ a balanced approach regarding capital allocation, as illustrated by our refined financial policy. As a result of our growing free cash flow profile, we expect to retire $715 million of debt and opportunistically execute upon our $1 billion unit buyback program through year-end 2024. Additionally, based on current conditions and estimates, we plan to increase the base distribution by over 50% as of first quarter 2022, which will provide a competitive yield for unitholders. Third, we continue to strengthen our balance sheet as we materially exceeded our year-end 2021 leverage target of 4.0 times and recently returned to investment grade with S&P. By establishing the annual enhanced distribution structure, which is contingent upon meeting certain leverage thresholds, we are further incentivized to continue decreasing leverage to 3.0 times by year-end 2024. Finally, we continue to focus on prudent capital allocation and the use of multiple avenues towards value creation for all stakeholders. A large part of our capital spending needs pertains to the expansion of our existing assets to prepare for increased activity in 2023. To close, I’d like to extend my thanks to our workforce for their performance in 2021. Despite numerous headwinds with the pandemic and winter storm Uri, their commitment to living our core values into our foundational principles of operational excellence, customer service and sustainable operations has provided tremendous momentum that sets us up for great success in 2022. With that, we’ll open the line for questions.
[Operator Instructions] Our first question comes from the line of Spiro Dounis from Credit Suisse.
I want to start off with the new capital allocation framework and really just trying to get a sense on how you’re thinking about the decision points in any given year when it comes time to allocate that capital. It sounds like short of buying back stock or spending more on projects, that’s going to sort of default to that enhanced dividend. But I guess before you get to that point, how are you thinking about the metrics that are going to drive you to buy back? I know you mentioned opportunistic, but I imagine you’ve got certain trigger points. And so, I’m just curious, are those yield-based, price-based or maybe some other metric? And then, when you think about capital spending and electing to use that capital on growth, are those projects going to have a higher return threshold because that capital is now maybe competing a little bit more directly with shareholder returns?
Yes. Spiro, it’s a great question. Unfortunately, we’re not able to disclose as it relates the specific metrics that we use to opportunistically utilize the buyback program. However, we -- the point in the distribution -- the enhanced distribution program is that if we don’t find those opportunities, whether it be through additional growth capital and incidentally, we do think about the threshold for capital expenditures at the same level pre and post the change in financial policy, which we believe to be a very competitive rate of return necessary for us to spend that capital regardless. But if it is that we don’t find opportunities to utilize the buyback program, we do still have free cash flow, then essentially, what we’re saying is if we couldn’t find a better use for it during the year, then this program allows for an enhanced distribution to give that money back to our unitholders.
Got it. That’s helpful. Thanks, Michel. Second question, just going to capital spending. To your point, it looks like it’s going to be a little bit elevated here in 2022. Some of that is timing related from 2021. But it seems like really the driver there is elevated activity as you noted in 2023. And so, as I think about going from ‘22 to ‘23, 2022 EBITDA based on your guidance, it looks like it’s sort of marginally higher. It sounds like the DJ is weighing on that a little bit. As you get into 2023 and that activity picks up, would it be your expectation that that growth rate will be sufficient to maybe even more so overcome any sort of declines you’re seeing in the DJ. Just trying to get a sense of the magnitude for this activity that you expect in 2023.
Yes. It’s a good question. I mean, the capital budget is a great indicator as well as the reduction in our cost of service rates, both of which are great indicators as to the optimism that we have, an expectation that we have as it relates to increase in activity levels, particularly in the Delaware Basin. And so, as you pointed out, a little bit of the capital is sliding from projects ‘21 to ‘22. But really, the story is that we do expect meaningful activity levels in 2023 and beyond, thereby the reduction in rates and the increase in the capital overall. I don’t know, Craig, if there’s anything else that you’d like to add to that?
We’ve got our 2022 capital program aligned with what we need this year but also positioning us for 2023, as Michael’s outlined. So, we feel pretty good about it. I mean, obviously, it includes some onetime capital associated with investments in technology and some tools that we think are going to serve us well going into the future. So that’s capital that is somewhat incremental in 2022 that wouldn’t expect on a go-forward basis.
I guess, we respond more specifically to the point on quantum. Again, I would just articulate that it is based off of an increased activity level in ‘23 compared to ‘22.
Our next question comes from the line of Colton Bean from Tudor, Pickering, Holt & Co.
So, would love to start off in the base distribution. Obviously, 53% is a pretty significant step up. So, any additional detail on how you’re at that level, particularly in light of competing uses of capital, like buybacks would be great.
Yes, sure. So, first and foremost, we wanted to set it to a level that we believed was sustainable going forward, and provided for incremental free cash flow after distributions to use for items like debt reduction and the buyback as a whole. So, in conjunction with that increase, obviously, we’ve highlighted the fact that we’re going to continue to delever from a debt perspective, a little over $700 million over the next couple of years as well as utilize the buyback program with the $1 billion announcement that was highlighted there. So, in light of the fact that we have significantly exceeded our expectations as it relates to a leverage metric exiting the year at 3.5 times net debt to EBITDA, the upgrade from S&P, putting us on very solid footing ahead of schedule from that perspective. We really wanted to outline a structure that provided for what we believe is a sustainable level and the incremental free cash flow after distributions that allows us to offer other pillars of return on capital through debt reduction and the buyback as a whole. So, we did come into the year with a couple of hundred million dollars worth of cash as it relates to free cash flow for this year. Obviously, it’s also based on the previously lower distribution in the first quarter of this year. So, we believe that it provided at that level of $2, it provided for adequate capability in the near term to both pay off the near-term notes, provide opportunity for opportunistic buybacks as well as incentivize us to grow the free cash flow at appropriate leverage levels going forward.
Great. And then, just following up on Spiro’s question, understand that putting specific metrics out there is tough to do. But conceptually, when you think about a variable distribution versus permanently retiring capital via buybacks, and is there kind of a broader framework that would steer you to one of those decisions versus the other?
Well, actually, what we provided within the structure is the ability to do all of the above. And so, one way to think about that $1 billion is at kind of today’s market cap from a buyback perspective is roughly 20% of our public float, right? So, it is a significant amount of buyback availability for us. And so, what we’re providing for here is the flexibility and opportunity in light of the free cash flow generation that we expect for the next couple of years to be able to make a meaningful impact and difference on all three of those areas: debt reduction, buyback as well as increased distribution level.
Our next question comes from the line of Kyle May from Capital One Securities.
Michael, maybe following up, just kind of curious to dig in a little bit more on the enhanced distribution. Just wondering if you could talk more about the thinking behind it, maybe from a philosophical level, how did your team devise the strategy? And then maybe talk about why WES decided to change its approach from the previous 5% annual growth strategy?
Yes, a couple of things. Good question, Kyle. So, first and foremost, we achieved the leverage metrics earlier than expected, exiting 2021. And so, we previously set that growth target. It was based on an expectation of where our leverage would be that we meaningfully exceeded overall. What the new structure does provide is not only a great distribution level as a whole that we believe is sustainable that the enhancements as it relates to a leverage metric utilized every year as to whether or not you pay out the enhanced distribution, trying to provide additional security around the sustainability of that base distribution and then offer opportunity to our unitholders that if we don’t find a better use of our capital during the year that it should rightfully come back to you in the form of the enhanced distribution. It also incentivizes our largest customer and unitholder that additional activity levels that come into the WES footprint, and therefore, enhance the free cash flow profile that it increases the likelihood that they will also receive a higher distribution amount overall. And so, there are a lot of factors that went into that. It was a marrying overall of our sustainability from a base distribution level, as a flexibility to utilize other means to return capital through debt unit repurchases as well as to incentivize our customer and largest unitholder to continue to have activity levels on our acreage position.
Got it. I appreciate the additional color there. And then, I know you typically don’t talk about quarterly guidance from a volume perspective. But, given the change in maybe the forward look on the DJ Basin, just wondering if you can maybe give us a better sense of kind of how we should think about volumes trending through the year and then kind of coming back to your exit rate volumes you pointed out?
I think, as a whole, -- I’m talking about it in aggregate, as a whole, we would expect progressively growing volumes throughout the year.
Our next question comes from the line of Jeremy Tonet from JP Morgan.
Just want to kind of dig into the guidance a little bit more, if I could, with regards to drivers to the high end versus low end of your guidance range there? And any thoughts, I guess, with regards to certain commodity price outlook, drilling activity could go to the high end and to the low end? And then I guess as a follow-up, it seems like you’re priming for ‘23 here with the CapEx development. Does that mean you’re kind of expecting a nice step up at this point? Just trying to gauge how that trajectory could look.
Yes, sure. So, a couple of items that would drive outperformance at the higher end relative to the lower end. Obviously, increased commodity prices, while we do have limited exposure, it does impact as commodity prices continue to increase. Outperformance from a producer perspective, our increased activity levels during the year would clearly have an impact. A couple of the items that are highlighted that before they’re dragging us down a little bit for ‘22 relative to ‘21 are our EMIs. So, if there’s outperformance from an EMI perspective, that would have an impact on our forward-looking 2022 estimates. And then obviously, on the cost side, which is something that we focus significantly on if we can continue to drive further efficiencies through the system, better costs, increased third-party opportunities would clearly drive us to the higher end of that range, if not outside of it. What we saw in 2021 was the third-party success, the cost reduction, commodity prices were all key drivers in us exceeding our guidance range for last year. And we would expect that to be the same types of drivers for 2022 and beyond.
Got it. Thank you for that. And then, one -- I guess, one last question here. Just within the capital allocation framework, wondering if there’s any thought on M&A. And we’ve seen, I guess, a private recently sell to a public, and it doesn’t seem like necessarily WES is reserving anything to move in that direction. But just wondering if there’s any thoughts you could share on that or consolidation in the industry in general.
Yes, sure. So, this framework in our mind, doesn’t really impact our ability to do M&A at all. So, from an M&A perspective, obviously, we’d like to make sure that the financing structure where in that M&A was employed kind of fits and frames really well with what this framework would detail. But for us, as it relates to any M&A transaction, if it’s accretive overall to our profile going forward, we think that it fits really well overall within the structure. As it relates to the calculation itself, any M&A dollars would be outside of the free cash flow calculation other than whatever the incorporated free cash flow would be from that asset from the point at which it was acquired, right? So, that would flow into our free cash flow calculation. The financing itself of M&A would be outside of it, but obviously, it would hopefully fit within the framework of the leverage targets that we’ve established overall. We’re constantly on the outlook as it looks to M&A opportunities. For us, it’s about what is it that can enhance our overall profile. We’ve been really successful on the third-party side. We’ve got great expectations as it relates to future volume growth in the system. And so in as much as there’s assets that would plug into that framework and provide us with an opportunity to gather more of those volumes in a cost-efficient way, push some of the cost savings and synergies that we’ve been able to achieve over the past couple of years on to that acquisition, we would absolutely take a look at it.
Got it. Got it. And I guess, do you have any expectations for, I guess, industry consolidation at this point? Do you expect where a mature phase where people come together, or anything you want to share there?
Yes. Nothing I would necessarily share. It does feel as if the sentiment, as it relates to the forward positive fundamentals of our business, I mean, they’ve definitely improved a lot over the past couple of years and feel very strong from that standpoint. And so, it definitely would seem as if the sentiment would be justified as it relates to consolidation. However, I don’t have any specific insight as it relates to whether or not there will be that occurrence. There are a lot of other factors that play into that contract-wise, social dynamics, all of those things that are a little bit more difficult to predict.
Our next question comes from the line of Gabe Moreen from Mizuho.
I won’t ask anything more on the enhanced distribution. I wanted to have kind of two-pronged question on the Delaware though. One is, to the extent you’re going to be spending additional capital out there, does any additional processing play into that capital spend eventually? So, I’m just wondering how WES is positioned from a processing standpoint. And then, sort of related to that in terms of gas takeaway from the Permian, how your producers may be situated, and whether or not WES would be interested potentially in participating in a takeaway solution there eventually?
Yes, Gabe. This is Craig. And let me, I guess, first address your first question around the processing. We don’t anticipate incremental processing capacity within our own system in the near term. We see opportunities -- continued opportunities to explore offloads and utilize existing processing capacity within the basin. And so, in our minds, as we’ve talked about previously, we feel like that’s the most capital efficient option for us, and it quite frankly provides us some flexibility and runway to defer a significant capital investment decision like the plant expansion until we really get comfortable with the long-term need and viability of keeping that capacity full. And so, we’ll continue -- continuing to work on those offload opportunities and have had some success in that arena. And so, for us, that’s just -- we concluded that’s the most capital efficient route for us and economically is the best answer. And we see that that is our near-term solution, but we continue to evaluate when a plant expansion may be needed, just isn’t right now. As to your second question around downstream residue transport out of the basin. We’re continuing to monitor the supply and demand balance in that regard. At this point, we’re not particularly keen, so to speak, on participating in one of those long-term long-haul takeaway solutions. That’s really a bit further downstream from where we -- what our bread and butter is on the gathering and processing side. But, we continue to work with our producers to navigate that decision matrix around helping to ensure that they have good outlets for the residue gas on a long-term basis. But as of right now, no immediate plans to participate maybe in any of the potential projects that are being discussed.
Thanks, Craig. And then, if I can ask quickly on that $44 million transition or system spend? Do you feel like once you get through that that will sort of be as far transition system spend and kind of what you need from sort of a standalone organizational standpoint?
Yes. That’s a great question. So, again, we actually look at this as we do any other project, which is that’s capital that we’re spending where there is a return associated with it. So, the team has spent an awful lot of time taking a look at the efficiencies that we can derive from an improvement overall in our systems. It’s is not mandatory, it’s optional, and it’s optional based on what we believe to be a great opportunity for us to get even better in what it is that we do. It is much more onetime in nature. Obviously, you’re going to have continued system spend as time goes on. But, this is a lot of work that’s happened over the past couple of years, a lot of discussion with each of our team members throughout the organization to try and find ways that we can be more efficient, and what are the tools that we can utilize in order to make us more efficient, and then, does that result in an acceptable rate of return so that the enterprise can dedicate the capital towards it. So, very much a 2022 levered capital item. There will be some additional capital, as you would expect from a systems perspective, but it is also a very high returning project for us.
Our next question comes from the line of Gregg Brody from Bank of America.
This is Robert Stewart [ph] on for Gregg. Just two quick ones here. You provided a lot of color around the enhanced distribution. Just wondering if you continue to expect to grow that base dividend after the 53% increase in the first quarter toward that 5% number, or if you’re going to hold it there?
Yes. So, we don’t have any expectation of increasing the base distribution. The growth in our distribution will be inherently based upon the free cash flow generation of the enterprise. So again, that goes along with the logic that we have set at a sustainable level and then try as much as possible to put guardrails around that distribution, such that it always stays within a reasonable level for the enterprise going forward. And then, the reward to the unitholders will be based off of the free cash flow generation of the enterprise going forward. So, we don’t have any expectation today that the base level would increase and that the growth would really come towards the enhanced distribution structure.
Okay, perfect. And just another kind of technical one. When you’re going to look back at this year and you’re calculating your first enhanced dividend, are you going to assume the lower dividend in the first quarter, or are you going to assume that increased dividend for the full year?
Yes. We assume the lower ones for the quarter. So, it is the calendar year distributions paid as it relates to that calculation. So, that would include the most recent distribution that was paid a couple of days ago.
There are no further questions at this time. Mr. Ure, I turn the call back over to you.
Thank you, everyone, for joining the call. I really want to thank all of our stakeholders and unitholders for the journey we’ve been on for the past couple of years and the incredible progress that we’ve been able to see, and that puts us in this really exciting position overall for our company. I want to again thank our employees for the excellent efforts through some pretty challenging times over the past couple of years. Thank you all, and we look forward to speaking to you on the first quarter call in a couple of months.
This concludes today’s call. Thank you for joining. You may now disconnect your lines.