Despite a positive showing in fourth-quarter 2022 — and a near quadrupling of net income for the year —SM Energy’s  2023 guidance disappointed analysts as the company forecast lower oil production and higher capex.

The company is also battling infrastructure woes from legacy pipelines meant to carry natural gas rather than liquids. For the year, however, year-over-year (yoy) net income rose 295%.

The Midland Basin and South Texas E&P guided 2023 capex to approximately $1.1 billion, compared to the previous year’s $909.7 million — a more than 20% increase.

SM Energy Boosts Q4 Income But 2023 Guidance Underwhelms
(Source: SM Energy investor presentation)

SM Energy’s operations appear poised to be less efficient, more expensive and offer less production growth, said Gabriele Sorbara, an analyst at Siebert Williams Shank Equity Research.

SM Energy’s 2023 estimated production guidance suggests flat to low single-digit growth yoy. The company expects annual production of 52.5 MMboe to 54.5 MMboe — 144,000 boe/d to 150,000 boe/d.

“With an oil mix of 43.0%, oil production guidance is implied at 61.9 MMbbl/d‐64.9 Mbbl/d (3.8% yoy decline), 5.9% below our estimate of 67.2 Mbbl/d (2.3% yoy growth) and 5.4% below Consensus of 66.8 Mbbl/d (1.7% yoy growth),” Sorbara wrote in a Feb. 23 research note.

Company officials said a big part of higher than expects capex is associated with increased production costs.

“LOE ticks up to $5.75 to $6 per boe assuming more workover expense, as well as some inflation,” CFO Wade Pursell said during the company’s fourth-quarter 2022 and full-year 2022 earnings call on Feb. 23.

“The capital inflation last year was much stronger than the operating costs inflation,” President and CEO Herb Vogel told analysts. “There’s certain cost areas that went up, but workovers increase is probably the single biggest. And then we got water and just general inflation…and that’s really the contributors there. Labor is also up, and we got that integrated in that estimate also. Those are the related major components.”

Not all production costs trend up in 2023, however.

One silver lining: the cost of “diesel is way down, and that will play into capital and operating expenses at a downward trajectory right now,” Vogel said.

SM Energy Boosts Q4 Income But 2023 Guidance Underwhelms
(Source: SM Energy investor presentation)

Infrastructure woes

The company’s oil and gas production numbers are still reliant on where they operate in the Midland Basin and South Texas.

Fourth quarter volumes in South Texas reflect approximately 0.08 MMboe shut-in due to inclement weather in December. Curtailments continue to hamper the company’s Austin Chalk production.

“During the fourth quarter 2022, curtailments, or deferred production, due to high line pressure totaled around 0.2 MMboe,” Pursell said. “These constraints are expected to be largely mitigated by mid-year.”

South Texas infrastructure was originally designed as a dry gas system supporting Eagle Ford production, and SM Energy experiences intermittent curtailments at certain wells due to high line pressures associated with the high liquids content of Austin Chalk wells, according to a company press release.

SM Energy reported that it is working with its midstream partners to upgrade facilities in the region to accommodate higher liquids production. The company’s capital program includes an allocation of approximately $45 million towards expanding facilities, including extending the South Texas facilities.

However, due to the expectation of lower natural gas prices in 2023, SM Energy has shifted its weight to favor their activity in the Midland, allocating roughly 60% of drilling and completion capital there and 40% to South Texas.

With the Energy Information Administration forecasting the Henry Hub natural gas spot price to decrease almost 50% from last year — and about 30% from their January Short-Term Energy Outlook — the shift may be prudent.

Income, earnings per share rise

In the quarter, SM Energy reported an adjusted net income of $159.2 million, or $1.29 per diluted common share,

compared to $141.5 million, or $1.14 per diluted common share, for the same period in 2021. For the year, the company reporting adjusted net income of $904 million, or $7.29 per diluted common share, compared to $228.3 million, or $1.85 per common share, in 2021.

SM Energy Boosts Q4 Income But 2023 Guidance Underwhelms
(Source: SM Energy)

Fourth quarter production reached 142,900 boe/d, 43% oil. Full year production average 145,100 boe/d with a mix of 45% oil, 15% NGLs and 40% natural gas.

The company also reported paying down more than $550 million in debt.