Good day, ladies and gentlemen, and welcome to the Third Quarter 2018 Black Stone Minerals Earnings Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Brent Collins, Vice President of Investor Relations. Sir, you may begin.

Thank you, Demetrius. Good morning to everyone, and thank you for joining us, either by phone or online, for Black Stone Minerals Third Quarter 2018 Earnings Conference Call. Today's call is being recorded and will be available on our website, along with the earnings release which was issued yesterday afternoon. Before we start, I'd like to advise you that we will be making forward-looking statements during this call about our plans, expectations and assumptions regarding our future performance. These statements involve risks that may cause our actual results to differ maturely from the results expressed or implied in our forward-looking statements. For a discussion of these risks, you should refer to the cautionary information about forward-looking statements in our press release from yesterday and the risk factor section of our 10-Q, which will be filed later today. We may refer to certain non-GAAP financial measures that we believe are useful in evaluating our performance. Reconciliation of those measures to the most directly comparable GAAP measure and other information about these non-GAAP metrics are described in our earnings press release, which can be found on our website at blackstoneminerals.com. The company officials on the call this morning are Tom Carter, Chairman and CEO; Jeff Wood, President and CFO; Holbrook Dorn, Senior Vice President of Business Development; Brock Morris, Senior Vice President of Engineering and Geology; and Steve Putman, Senior Vice President and General Counsel. I'll now turn the call over to Tom.

Morning. Black Stone had another solid quarter and set a number of new quarterly records in the third quarter of 2018. We set a new quarterly production record of 48.3 barrels of oil equivalent per day, which was 8% higher than our previous record set just last quarter. Oil and gas production grew 5% and 9%, respectively, quarter-over-quarter. Importantly, our royalty volumes continue to grow during the quarter, setting a new quarterly record of 32.9 barrels of oil equivalent per day in the quarter. Our royalty production has grown 50% over the last year, which demonstrate how well we are executing on our plan to focus on our mineral and royalty business. It also shows the quality of our acreage. We've seen a lot of activity on our acreage in '18 and that's translating into meaningful well additions that are driving our royalty volumes higher. As of mid-October, we've 125 rigs operating on our acreage, which includes 75 rigs in the Midland and Delaware Basin. And we see a lot of permitting across our acreage. So we believe the momentum that we're seeing with respect to royalty production is going to continue. Our working interest volumes grew on a sequential basis in the third quarter, but are essentially flat with volumes a year ago. Lease bonus came in at a healthy $12.4 million for the quarter, driven largely by leasing in the Austin Chalk trend as well as some activity in the Midcontinent in the Louisiana, Haynesville. We set new quarterly records for both adjusted EBITDA and distributable cash flow at $114.2 million and $100.8 million, respectively, which were both driven by record production and favorable pricing backdrop. The third quarter was our most active quarter for the year from an acquisitions perspective, with the partnership closing on $74 million…

Okay. Thank you, and good morning, everyone. So Tom covered the highlights of our operational, financial results for the quarter. So I'm not going to repeat that here, except to say that we're really proud of the performance that we delivered throughout 2018 and the third quarter, certainly, continued that trend. Our production for the quarter of 48.3 BOE per day was well ahead of our revised full year guidance range of 44.5 to 45.5 MBoe per day. We had a meaningful increase in new well adds for the quarter. We also had some production release from suspense in the Louisiana Haynesville that aided those results. Our new well adds have been trending up, and we would expect that given all the drilling activity we're seeing on our acreage particularly, in the Permian. So those new well adds are certainly not onetime items, but it's tough to know how much of that will be repeated quarter-over-quarter. So for now, as we look forward to the fourth quarter, we're maintaining that full year guidance range, but expect to come in at the high-end of it for the year. As usual, we will plan to an issue - to issue our initial guidance for 2019 in conjunction with our fourth quarter earnings release that we'll put out in February. Our realized prices for oil and gas in third quarter were both up slightly from last quarter, despite seeing some widening of crude differentials. Strong production levels and commodity prices resulted in Black Stone posting almost $150 million oil and gas revenues for the quarter. Our adjusted EBITDA of around $114 million was up over 14% from the previous quarter, despite almost $10 million of realized hedge losses. LOE and production costs were in line with our revised guidance. Noncash G&A ticked up…

Thank you [Operator Instructions] And our first question comes from Kashy Harrison with Simmons Energy. You may proceed.

Good morning everyone and congratulations on another solid quarter. So I think it's great that you've raised the distribution above and beyond the MQD. And as I was looking through the press release last night, I noticed that you highlighted your distributable cash flow yield and you also said in the prepared remarks that it's closing in on 12%. Given that it seems the market is valuing companies on actual dividend yields versus distributable cash flow yields, I was just wondering what are your thoughts on bringing down the coverage ratio from 1.3 times to 1.1 times in the near-term through further increases in your distribution level?

This is Tom. I'll answer that. And the answer to it is - that is a policy question that still under consideration and formation at the board level. I would also add that, I think, there's a lot of consideration being given to moving our coverage ratio in the direction of 1.1 times rather than higher. And we look forward to reaching more consensus around that pretty quickly, but we are looking closely at it and that maybe something that could be in our future.

Got you. And then just a quick follow-up for me. I imagine you're probably tired of debating this by now, specifically C Corps versus MLPs, but I just wanted to touch on that again. I know that this is something that you all have been cautious on, just given the heavy tax bill and the uncertainty around current tax policy and future tax policy. But I was just wondering, how much of valuation disconnect would you have to witness in the marketplace before you would more seriously contemplate a change in tax structure? How big with that valuation gap have to be before you think it starts to become more appealing?

Kashy, this is Jeff. I'll take the first stab at that. What we've always said is that as you're well aware, it's pretty easy to go the C Corp route. It's basically impossible to go back to an MLP once you've done that. So we think that some caution here is warranted. And frankly, as we've seen what's going on in the market, it's just tough to get a reliable series of data points, right? So we've had two peers that have converted. One of those peers did what we would consider a very successful equity offering that showed depth of capital markets and did in an attractive price and another peer, we think, didn't offering that maybe - didn't show that C Corp was some panacea in terms of depth or pricing in that. So as of now, we've been able to fund what we want to fund on the acquisition side, and we've got pretty good liquidity right now. We know that, as we've talked about before, that we would take a tax hit, certainly if we did a full corporate conversion. So to date, we have determined with the board after looking at pretty hard that the value to our unit holders is best served staying in this format. But with that said, we're always looking for structural fixes to that. If there was something where we could do a conversion and mitigate some of the tax impact and hopefully get some of the benefits in terms of depth of capital markets et cetera, we do it. But we just haven't really seen the market speak just positively on that yet.

Got it. That's just for me. Thanks for taking my question. And have a good luck for the day.

And our next question comes from Brent Koaches with Raymond James. You may proceed.

Good morning guys. Congrats on your another strong quarter. Just wondering about the PepperJack prospect arrangement. Can you maybe just share a little bit more color on how that deal kind of came together? And then maybe some specifics as far as if the partners elect to develop that acreage, how many wells per year would that entail and kind of what's the time period?

Well, this is Tom. I'll take a shot at that. The PepperJack project is another project in a sequence of projects, including what we're doing with XTO in San Augustine County, what we're doing with BP in Angelina County. Large projects like that where we have taken areas where we have a lot of minerals and incubated development there by using our own capital to get plays moving, and then gotten out of them once that happened. PepperJack is in the Wilcox. It's an area that did not have 3D. It was basically a donut hole, but had a lot of 2D on it. There was a very favorable structure there, but the industry, because of various things from no 3D to acute focus on resource plays versus conventional plays, industry just wouldn't come in to that play in a manner and deal structure that we were comfortable with. So given the size of the prize there, if it worked, we elected to drill it, heads up ourselves. And we encountered three pay zones in the well that looked pretty attractive from a logging standpoint. They looked very similar to the up-dip field called Gilly, two faults blocks up. And our purpose in that was to derisk the project to a point to where we could get industry to come in and take a shot at developing it. What has happened is we have sold - that we have optioned the acreage, the partners have reimbursed us for 100% of the cost and paid us an option fee. They're going to test the well. After the well is tested in a zone that's already logged, that looks very perspective on the log. Once the well is tested, they will have a short period to make an election whether to shoot a substantial 3D survey that we will be carried in. And then once the survey is completed, there will have a short period of time to elect in one of three blocks - one or more of three blocks to commence a continuous development program that could see anywhere from in the neighborhood of five or six wells drilled per year on our minerals. And this is not the similar from what's going on some of these other blocks. So we're looking at that being potentially an additive volume source 18 to 24 months from now. And so I hope that gives you some color on what that looks like. This is an area with a lot of high side potential and it's got some liquids with it. So it could be very attractive. It's still in the exploration stage right now, but it's often running. And we hope to be doing more of these kind of things to basically continue to add to our production potential in the years to come.

Great. Thanks for the color. It sounds like it's going to be a pretty meaningful deal for the company. That's it for me. Congrats anther quarter and look forward to 4Q.

And our next question comes from Tim Howard with Stifel. Sir, you may proceed.

Hi, thanks for taking my question. Going back to just 3Q production and I thought as I kind of missed your prepared remarks slightly, but were there any onetime items in there kind of what's the drivers of the Q-over-Q increase? And by maintaining guidance, it seems like there is an expected decline in 4Q. So if you could just kind of frame my thought around that, please?

Yes, Tim. So there - this is Jeff. There were a couple of things. We did have a lot of new well adds in the third quarter and that was part of the prepared remarks. Now it's really difficult to know we're seeing a lot of permits, we're seeing a lot of drilling on our acreage. So it's not surprising to us that our new well adds are trending up, but some of that's timing. So it's tough to know exactly kind of quarter-over-quarter exactly how those numbers are going to come out but that benefited us in the third quarter. You may have noticed from the release our working interest production ticked up a little bit from what it's been over the past few quarters. That's just largely a sense of completion timing. Ultimately, as we've talked about for a long time, did the farm-outs, we're moving away from that area of the business. So our working interest production will decline over time. So we chose - and again, this was in the prepared remarks, we chose to leave guidance where it was. We certainly think we're going to come in at the high-end of that guidance. Certainly, there's potential there to be that we just - we didn't feel as comfortable to change it now, just given, again, it's a little bit tough to have perfect visibility on the extent of those new well adds quarter-over-quarter.

Got it, that's very helpful. Thank you. And then shifting to the distribution policy. I was wondering what was the driver of the 10% Q-over-Q growth? Was it kind of maintaining 1.3 times coverage? It sounds like there's a discussion or analysis of maybe taking that lower. So just kind of - what guided to the 10% growth? And how we should think about it going forward?

Yes, Tim, it was really just a very long discussion with the board, balancing right or wrong. We've been running pretty high coverage, historically. We like that. It enables us to pay down debt. It frees up funds for acquisition that we don't have to go in and raise to the capital markets. We think there's a benefit there. And yet frankly, the business has just performed so well that maintaining that $1.35 annualized rate, we just didn't think was right answer either. So this was a little bit of balancing between maintaining some coverage plus bringing a - what we think is significant distribution increase to our unit holders. I think over time, what you'll see is that we'll kind of migrate towards that longer-term 1.1 times, 1.2 times coverage rate. But frankly, it was just such a good quarter we were able to do both, and we thought that was a pretty attractive answer.

Excellent. Yes, that's great. And then I guess just more broadly on capital allocation with the repurchase program in place now. How should we think about acquisitions, distribution growth, repurchase of shares? How do you guys think about each of those buckets?

Yes. So the buyback is really just about optionality. We've got over $130 million of acquisitions to date this year. We're still seeing really good opportunities out there. I'll tell you that we're sensitive to our liquidity, both the liquidity in our stock price and the liquidity on the balance sheet. So we're going to be careful around this repurchase program. At the same time, we're telling investors this is an attractive entry price. So what this repurchase plan does, it just gives us the ability to buy on dips. We think it's good to have in the arsenal. We're not putting any strict parameters on buy prices at this point. But as Tom mentioned in his prepared remarks, right, at a DCF yield of over 11.5%, it's interesting, right? And you have to kind of put that into the factors that you consider when we're allocating capital. But from a larger picture perspective, we intend to continue to aggregate mineral. That's what we're here to do. We're continuing to see attractive opportunities. This just gives us a chance to be opportunistic and buy when we see that dislocation get really acreages.

Makes perfect sense. And then just last one for me, just on the hedging policy. I don't - maybe there's additional hedge to add that post quarter, but wondering kind of where you are at the natural gas size? It doesn't seem like there's anything in 2020 yet and just wondering how your policy is evolving, given the kind of depressed curve?

Yes. So we put on some colors for oil for 2020. And we continue to look at gas. We haven't done that yet, but that's our - that's pretty normal for us to start around this time to be looking more than 1 year forward. We typically hedge in that 12 to 24 months range. So as you know, gas has been backwardated and tough. So we've been a little bit hesitant to put those on. But it's something that we'll be looking at hard here in the next few months.

Got it. Thanks for the detail.

[Operator Instructions]