Hess Earnings: Tax Barrels and POP Contracts Magnify Modest Outperformance

We intend to incorporate Hess’ HES first-quarter results into our model shortly, but after this first look our fair value estimate is unchanged. The firm is ostensibly off to a terrific start to 2023, with both production and cash costs significantly beating quarterly guidance and putting the firm in a strong position to exceed its annual goals, as well. Firmwide production was 374 thousand barrels of oil equivalent per day, handily beating the target range of 345-355 mboe/d, and giving management the confidence to raise its annual goal from 355-365 mboe/d to 365-375 mboe/d (up 3% at the midpoint). Likewise, E&P cash costs were $12.96 per boe, below the low end of guidance for both the quarter and the full year. But digging into the results reveals the execution, while solid, was not as spectacular as the headline numbers suggest.

The 24 mboe/d spread between output and the midpoint of guidance includes 12 mboe/d in Guyana and 6 mboe/d in the Bakken, implying the 6 mboe/d balance applies to the Gulf of Mexico. The Bakken result was partially attributed to increased drilling and completion. The fourth rig referenced in the release was incorporated in guidance but milder-than-usual winter weather presumably enabled faster activity, so this looks like genuine outperformance. However, Hess also receives NGL volumes as recompense for gas processing in the region, and when prices fall more barrels are needed to cover fixed fees under its percentage-of-proceeds contracts. Likewise, 15 mb/d of Hess’ Guyana volumes were “tax barrels,” which are essentially a cash-neutral gross-up to offset taxes recognized under U.S. GAAP but not actually paid by Hess (so actual volumes were 3 mboe/d below guidance). Artificial volume increases also spread actual cash costs more thinly.