Sm Energy Company Q2 F2026 Earnings Call Transcript

Greetings and welcome to the SM Energy's second quarter 2026 earnings call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note that this conference is being recorded. I would now like to turn the conference over to Megan Hayes, SM Energy's Vice President, Investor Relations. Thank you, Megan. You may begin.

Yes, thank you. Good morning and welcome to SM Energy's second quarter 2026 earnings call. I'm Megan Hayes, Vice President of Investor Relations. It's a busy morning for everyone, so we'll jump right in. Joining me are Beth McDonald, our President and CEO, Wade Pursell, our Executive Vice President and CFO, and Blake McKenna, our Executive Vice President and COO. Today's discussion will reference forward-looking statements. Please see slide two of our earnings presentation as well as the risk factors section of our most recent Form 10-K for risks and uncertainties that could cause actual results to deter materially. We will also reference non-GAAP financial metrics throughout the call. You can find definitions and reconciliations to the closest comparable GAAP metrics in yesterday's earnings release, Form 10-Q, and in the slide deck available on our website. When we get to Q&A, please limit your inquiries to one question and one follow-up, as this simply allows us to get more of your questions in today. With that, I'll turn it over to Beth.

Thanks, Megan. Good morning, everyone. The second quarter was our first full quarter operating as a combined asset. We generated $467 million of adjusted free cash flow, returned $137 million to stockholders, and have now actioned approximately 95% of our merger synergy target. Together, those results demonstrate that SM is already stronger, more cash generative and more valuable than either legacy business on its own. And they underscore why this platform is materially undervalued today. Integrate, execute, bolster. The framework for 2026 hasn't changed. And this quarter is proof that it's working. I'll take each in turn. On Integrate, we have now actioned approximately $355 million of our $375 million run rate synergy target, which we raised last quarter to nearly double the original. The organizational capability we brought to this merger is real, and it's now showing up directly in our cost structure, including a lower G&A outlook that Wade will cover. Overall, we are ahead of the pace that we laid out when we announced the merger. On Execute, Production averaged approximately 440,000 barrels of oil equivalent per day within our guidance range and building into the second half of 2026 pro forma for the divestiture of our Galvan assets in South Texas. On the strength of that trajectory, we are increasing our second half production outlook and reaffirming our full year capital plan. Wade will take you through that detail, but the takeaway is clear. We are executing within a disciplined capital framework and turning the combined platform into a higher free cash flow, higher return business for our stockholders. On bolster, we closed the Galvan divestiture, substantially achieving our billion dollar divestiture target within a year of the merger, and directed the proceeds to debt reduction, putting us on a visible path to low one times leverage. Alongside that, we also repurchased $84 million of shares this quarter under our capital return framework. In addition, with the cash on hand at quarter end, we provide a notice to redeem the remaining 2027 senior notes, underscoring the rapid progress we've made in strengthening the balance sheet. That combination, a stronger balance sheet and rising free cash flow with buybacks already underway, is a key part of why we believe SM's equity is so attractive today. In short, this quarter shows we are doing what we said we would do, integrating at pace, executing the plan, strengthening the balance sheet, and demonstrating the free cash flow and returns power of SM. I'll now turn the call over to Wade, who will cover the second quarter results and our guidance updates.

Thanks, Beth. Good morning, everyone. Our financial results were strong. Adjusted EBITDAX was $1.4 billion. Adjusted net income was $526 million, or $2.19 per diluted share. And we generated $467 million of adjusted free cash flow. Capital expenditures for the quarter totaled $717 million below our guidance midpoint of $835 million, primarily driven by DNC timing. We are reaffirming full-year capital guidance of $2.65 to $2.85 billion. So again, we generated $467 million of adjusted free cash flow for the quarter. We returned 30% of it, or $137 million, to shareholders through the dividend and share buybacks. the dividend being $53 million and $84 million used to jumpstart car buybacks consistent with our 80-20 framework that we've discussed. Leverage continues to fall and as it enters the low one times area calculated with mid-cycle commodity pricing, we anticipate increasing the percentage to buybacks. Speaking of leverage and turning to the balance sheet, we reduced net debt by about $1.1 billion during the quarter ending with net debt of approximately 6.25 billion dollars. That includes 620 million dollars of cash and an undrawn revolver. We used the Galvan divestiture proceeds to redeem all 819 million dollars of our senior notes due in 2026 and yesterday we called the remaining 2027 notes for redemption leaving no senior note maturities until mid-2028. Turning to guidance, We are raising our second half production outlook to a range of 435,000 to 440,000 barrels of oil equivalent per day with oil at approximately 238,000 barrels per day. As we've said, the second half average production rate is the right framing for 2027. were in the early stages of building the 2027 plan. You should expect a disciplined capital program focused on maximizing free cash flow, and we'll provide more color on the volume and capital cadence as we approach year end. Full year 2026 ranges are in the release, but with a partial year of Civitas and the Galvan divestiture both in this year's numbers, the second half average is the cleaner baseline to model. Additionally, reflecting accelerated integration and full capture of our GNA synergies, we are lowering full-year recurring GNA guidance by approximately $50 million at the midpoint. This is a durable run rate reduction with a significant free cash flow benefit. On that note, I'll hand it to Blake for a review of asset performance. Blake.

Thanks, Wade. Our results start at the asset level, so let me walk through the basins briefly. In the Permian, our combined footprint delivers procurement and scheduling efficiencies and gives us more flexibility. We're using our scale and technical team to continue unlocking the value of this high return inventory. In the DJ Basin, our combined company completion practices, Simulfrac in particular, continue to drive real capital efficiencies. It is a low cost, high margin business, and the consolidated footprint has made pad design, scheduling, and the cost structure much more competitive. In South Texas, the Galvan sales strengthened our balance sheet and high graded the remaining position toward higher margin Liquid's Rich Development, weighted towards the Austin Chalk. I want to spend a moment on the Uinta and the work our team is doing to drive efficiency and productivity. This year, our team has standardized our Uinta development program to pair completion innovations with faster flow back and longer laterals. Together, these changes are meaningfully improving well economics and cycle times, and as a result, pulling cash flow forward. We are developing our position with four-mile laterals, which our contiguous acreage makes possible. Our blocked-up acreage is a structural advantage few operators can match, and long lateral development is a deliberate capital efficiency lever that improves returns across the program. On the completion side, we've deployed several innovations, including simul-frac operations using natural gas frac fleet, remote frac equipment, a sand slurry pipeline, and dual-string coil drill-outs across our long lateral program. Our completion pace has increased over 2,600 foot per day, which is more than double our early 2026 rate. And these initiatives are delivering more than a million dollars per well in drilling completion and equipment cost savings that we have realized over the past six months. We have several compelling levers to pull in the Uinta, and together they are making this oil basin a more efficient, higher value part of SM's portfolio. And more importantly, the Uinta is one example of a broader advantage at SM. a technical organization that systematically captures, shares, and scales innovation across our portfolio, multiplying the impact of every improvement. And with that, I'll turn it back to Beth.

Thanks, Blake. Before we go to Q&A, let me leave you with four things that show our value creation flywheel is turning today. First, the merger is delivering, with 95% of our synergies actioned at a present value of $1.8 billion. Second, We are generating substantial free cash flow and returning it to stockholders. As leverage moves toward low one times of mid-cycle pricing, you should expect the mix of that free cash flow to shift progressively to buybacks. At today's valuation, we see repurchasing SM shares as a highly compelling use of our capital, and our 80-20 framework is designed to get us to the right leverage level while taking advantage of that opportunity along the way. Third, we are de-risking the balance sheet with no senior note maturities until mid-2028. And fourth, we are constantly high-grading our assets and using our scale to ensure our capital goes to the highest return opportunities. We expect 2027 to showcase the full earnings power of this platform, a full year of the combined company, one-time costs behind us, synergies at run rate, and a balance sheet built for returns. I look forward to your questions.

Thank you, Beth. Operator, please open the line for questions.

Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. And as a reminder, we ask that you please limit yourself to one question and one follow-up question. Our first questions come from the line of Dave Doubt with Truist. Please proceed with your questions. Dave, could you please check if yourself muted?

Thanks, operator. Sorry about that. Morning, everyone. Beth and team, appreciate the time. I was hoping we could maybe start off with an ops question, maybe circling back to what I asked last quarter. Just really curious about Howard County and the progress there, particularly with these U-turn wells. So the Zizou wells, it looks like maybe just south of that, you're targeting co-development of the Lower Sprayberry, Wolf Camp D and Wolf Camp A. Is that a new development pattern for you guys in that area?

No, I would say I'll start off and then I'll hand it to Blake to add anything that he wants to. That's not a new development for us. As you know, SM has been in Howard County and has really delivered strength and our returns profile there from the Sprayberry, the Dean and the Wolf Camp throughout that section. What I would say is we're using the best practices that we've pulled together from a strengthened SM after the merger in order to be able to unlock additional acreage in and around Howard County.

And just to follow up on that, we feel great about our U-turns with the combined team and the work that the DJ team has done. on U-turns as well. Successfully, we have a high degree in confidence in the operational ability of our teams to execute U-turns.

Got it. Got it. Okay. Okay. Sounds good. That's helpful. And then maybe second follow-up, another ops-related question. Just curious, offsetting the disease U-wells, there looks like some four-mile laterals that have maybe targeted... or have gone back to a DSU that hasn't maybe been touched in a few years and looks like these wells are performing pretty well. So curious if you can maybe talk a little bit about that and maybe if some enhanced completion designs have kind of led to some outperformance here. Thank you.

Yeah, appreciate the question. Four-mile laterals have been a big win for us. And then on the completion design front, we generally like to not comment too much on it, but I think looking at the performance of the wells should give you an indicator of and the progress we're making as a team.

Okay, great. Thanks, guys. Thank you.

Thank you. Our next questions come from the line of Michael Scialla with Stevens. Please proceed with your questions.

Hi, good morning. Good morning. Looks like you're getting pretty close to your leverage target and you've pushed off the nearest maturities. I want to see if we should anticipate any change to the return framework, or are you still planning to direct 80% of the post-dividend free cash flow to the balance sheet?

Yeah. Hi, Mike. Great question. We're obviously very pleased with the pace of the delivering that's been happening. and we're very pleased with our ability to buy back $84 million of stock during the second quarter, hitting that 20% target with the higher amount. I would say going forward, we've mentioned that kind of the target to get to really what we consider, we want a really, really strong balance sheet and that's that low ones area at a mid-cycle commodity price obviously right now the trailing second quarter I don't think anybody would consider that mid-cycle so that's our direction we're getting there though I would just say to answer your question specifically for now just anticipating us buying back at the same pace kind of sitting that 20% as a minimum and then we'll just be tracking it as we go forward the rest of this year Understood

I want to get your latest thoughts on some of the newer zones you've been testing, maybe the Woodford and the Delaware, Barnett and the Midland.

Yep. We're really happy with some of the extension and step outs we've had. It's very much still in progress and in process. So to my comment earlier, I want to stay away from the specifics of it. but the four mile laterals and the great technical work of the team I think have allowed us to go execute on what we've done so far and feel good about future potential.

The only thing I would add Mike to that is that you know as you look at the history of SM and what we've been able to do in pushing the technical limits of all those zones and showing through our numbers the success of that we did that in the Woodford you know several years ago and we just continue to compound are best practices in capital efficiency there to continue to drive the returns. And so we were a little bit ahead of the game there. I think most of the industry is catching up in the Midland Basin, but we're continuing to push the limits just like we've always done with success.

Great. Thank you.

Thank you. Our next question has come from the line of Zach Parham with TD Cowling. Please proceed with your question. Zach, could you please check if you're self-muted?

Operator, we can go to the next question, and we'll circle back to Zach.

Our next questions come from the line of Jeff Jay with Daniel Energy Partners. Please proceed with your question.

Hey, I was kind of interested in this fast back flow back effort. Can you give me a little more color on that? And then I wondered if this is something that you sort of imported to the Uinta from another basin, or if this is a potentially a technology or practice you could export to your other basins?

Great question, Jeff. Appreciate it. For us, it's part of our larger full development package that we do in the Uinta. So we aim for a high level of capital efficiency, right? So that means making sure our rig cadence, frac cadence is there and it's part of our efforts to continue to improve timing and cost reductions. So what that fast flow back is going to mean getting larger equipment out there temporarily to get higher volume flows back and working with the team to have more closer simultaneous operations to reduce the timing from when we spend the first dollar to when we produce the first barrel of oil. So it's a part of that whole process that you can kind of see in our slide deck as well. So it's integrating into our full entire operations cadence to bring our tills forward a little bit on the Uinta, which has been baked into our budget for this year.

Excellent. Thank you.

Thank you. As a reminder, if you'd like to ask a question, please press star 1 on your telephone keypad. Our next questions come from the line of Michael Scialla with Stevens. Please proceed with your questions.

Yeah, I just wanted to follow up and get your latest thoughts on divestitures. I know the Galvan sale got you near your target. I want to see if you're still thinking about additional sales or have you changed your mind there?

Thanks, Mike. The answer really hasn't changed for us, so there's no real update. The galvan cell substantially achieved our $1 billion target, strengthened the company in a short timeframe. And with our expanded scale, this really creates a larger candidate set for a creative non-core divestiture. So we've observed recent transactions and where those have traded. So we'll persistently kind of review our portfolio and consider those trends as we move forward.

Got it. And I wanted to ask Blake, on slide eight, those capital efficiencies in the UINT, are those reflecting the SM design wells? And if so, can you say how the well productivity of those maybe compares to what you were seeing with XEL?

Yeah, great question. So there has been a great knowledge transfer from XEL into the SM team. And so I think you see that reflected with some of the completions innovations with Simulfrac, NatGas, into the remote frac. And kind of through three is where a lot of those innovations, the team integrated into SM at acquisition. And then we've continued to the sand slurry, dual string coils, drill outs, as well as these IP accelerations, right? So that's where those innovations have continued into the SM team. When we're talking about SM Drilled Space Design Completions. We have a large pad coming on in September, which is our miracle pad, and that will be the culmination of our new program. Got it.

Thank you, guys.

Thank you. We have reached the end of our question and answer session. I would now like to hand the floor back over to Beth McDonald for any closing comments.

Thanks, Darrell. Thank you all for joining us this morning and for your continued interest in SM. What this quarter shows is that our value creation flywheel is working and sustainable. Strong free cash flow, a stronger balance sheet, and growing returns to stockholders. And we're focused on executing the second half and compounding that value into 2027. We appreciate your time today and look forward to speaking to many of you soon. Have a good day.

Ladies and gentlemen thank you for your participation. This does conclude today's teleconference. Please disconnect your lines at this time and enjoy the rest of your day.