Antero Midstream

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 3/5

Antero Midstream is a midstream energy company focused on gathering and processing natural gas, and water handling services in the Appalachian Basin, primarily for Antero Resources.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

Antero Midstream Corporation (AM) is a midstream energy company that operates primarily in the Appalachian Basin. It has two primary segments: Gathering and Processing, which involves gathering and processing natural gas for production, and Water Handling, which provides water for hydraulic fracturing operations. The company’s primary customer is Antero Resources (AR), a major oil and natural gas exploration and production company, with which it has a close strategic relationship.

  • Revenues Distribution: AM generates revenue primarily through long-term, fee-based contracts with AR. The Gathering and Processing segment contributes the most significant portion of revenue, involving fixed-fee and volumetric fees based on the quantity of gas handled. The Water Handling segment charges for delivery of fresh water and treatment of flowback and produced water.

  • Industry Trends: The oil and gas industry is currently experiencing increased volatility and pricing pressures. In recent years, companies are prioritizing growth in the production of natural gas, and this has led to an increase in investment and expansion of infrastructure, which has benefitted midstream companies like AM. The natural gas market has been influenced by events in Europe that caused energy prices to dramatically rise, but that has also led to a new focus on energy security and diversification of sources which the US should greatly benefit from. The midstream market tends to benefit from increasing production, but can also be susceptible to volume downturns if production plans are adjusted.

  • Margins: AM’s operating margins are affected by its cost structure which includes operation, labor, and maintenance costs for its facilities, and are influenced by fixed-fee and volumetric fee contracts. The company’s earnings are tied to the prices and market for natrual gas, so a lower price will lead to lower revenue.

  • Competitive Landscape: Midstream is a capital intensive industry that favors companies with scale. Some regions are also conducive to building moats if there are geographical barriers or specialized operations. AM operates primarily in the Appalachian Basin, which is a low cost, highly productive region. The competition in the region is high, but a company with long term contracts and low production costs has a definite advantage.
  • What Makes AM Different? AM has a long term relationship with its parent, Antero Resources, and that gives a large stream of revenue for the company, and an inside track on the projects and areas most likely to benefit both companies. It has a fairly low cost structure that gives it a good ability to deliver services in the region profitably.
  • Recent Acquisitions: In 2022, Antero Midstream acquired all of the gathering and compression business of Crestwood Equity Partners for $410 million. In 2023, Antero Midstream acquired the gathering and processing business of Stonebridge for $380 million. These deals are being undertaken to cut down costs on operations and consolidate a dominant presence in the region.

Financials

  • Revenues: Antero Midstream’s revenue is derived primarily from fixed-fee contracts with Antero Resources, thus they’re more susceptible to production volumes. The revenue has been increasing, as both Antero Resources, and AM have grown.
  • Profits: Antero’s profit margins have been somewhat variable, however they have steadily grown since 2021. The growth from the expansion of gathering and processing services can be offset by costs of acquisitions.
  • Cash Flow: AM generates positive cash flow from operations, however it has also been investing in the business to expand its services and take advantage of acquisition opportunities, which has cut down on cash flows.

AM has significant levels of debt. This is due to the capital intensive nature of the midstream industry, where infrastructure and investments in new acquisitions require large upfront capital investments.

2023 Quarterly Results (Q3)

  • Revenue: Total revenue was $394.8 million, with an increase in volume related to more well completions. Gathering and processing revenue was up from last year, as was water handling revenue.
  • Operating Profit: Increased from $165.3 in Q3 2022 to $184.7 in Q3 2023.
  • Net Income: The company recorded a net loss of $(16.1) million. This net loss can be attributed to items including asset write-offs.
  • Free Cash Flow: Positive at $83.3 million, though with large variations quarter to quarter.
  • Invested Capital: Was $9.1B, with new investments and acquisitions.
  • Debt: The company continues to have a large amount of debt, including from the new assets and projects.

2023 Key Financial Highlights:

The company expects full-year adjusted EBITDA to land around $870 million, with capital expenditures about $620 million. Also expect continued volume growth in core operations.

Moat Analysis

  • Barriers to Entry: The midstream industry has very high barriers to entry due to the very large costs of infrastructure and the complicated regulatory landscape. Competitors cannot simply build pipelines, processing plants, or water treatment facilities. Building relationships with production companies is hard and takes a lot of trust.
  • Intangible Assets: AM does not have considerable intangible assets. Long term contracts make their returns more stable, but they don’t provide a competitive advantage.
  • Switching Costs: AM has some switching costs, because the companies are integrated within operations. However, if a cheaper or better provider were to come to the region, many of the agreements would be up for renewal. Switching costs are also low because the products are generally of commodity nature.
  • Network Economics: There is some effect from the growth of networks, as greater coverage and pipelines make a company more valuable. However, network effects are more prevalent with businesses based on information or knowledge transfer.

Moat Rating: 2/5

Based on the factors above, Antero Midstream has a narrow moat. It has high barriers to entry due to the costs of infrastructure, and it also benefits somewhat from switching costs related to infrastructure integration with clients. It has some scale benefits, but also does not have a high degree of differentiation.

Risks to the Moat & Business Resilience

  • Customer Concentration Risk: Almost all revenue comes from Antero Resources, which makes AM dependent on the financial performance of its primary customer.
  • Pricing Fluctuations: As a midstream company, AM is highly tied to commodity prices. If prices remain low, their revenue growth may be hindered.
  • Technological Disruption: Technology for processing and producing natural gas could evolve, which could make some of AM’s current assets obsolete or less useful.
  • Regulatory Risks: The energy sector is heavily regulated, and changes in government regulations related to gathering and processing could impact AM’s operations and profitability.
  • Acquisition Risks: AM’s recent acquisitions may have a positive impact on ROIC, but are not guaranteed to, and there could also be negative impact from unexpected integration costs and lower revenue than initially planned.
  • Leverage: The company has a large degree of leverage, which means it is more susceptible to downturns in cash flow, or increases in interest rates.

Business Resilience:

AM’s long term contracts will give the company resilience even in bad market conditions, however its debt and ties to a single customer make it more sensitive to downturns and also more susceptible to long term declines in production.

Understandability

Understandability Rating: 3/5 The business is fairly complex but not overly difficult to understand. Most of AM’s performance is tied to production and throughput. One can gain insights into the business by comparing its various segments, its key customer, and the commodity market for the region it operates in. Understanding the interplay between various agreements with its parent company and the various factors impacting financial performance makes the valuation somewhat difficult.

Balance Sheet Health

Balance Sheet Health Rating: 3/5 The company’s balance sheet is fairly leveraged and could face problems in a downturn. It is currently a high leverage situation, but management has a clear target to lower debt, which could improve the long term strength of the company.

  • Debt: The company is levered with total debt around $4.9B.
  • Cash: AM currently has around $25.9m in cash and cash equivalents, but the company is rapidly growing.
  • Liabilities: Current liabilities are fairly well managed, and are only slightly higher than cash on hand.

Conclusion

Antero Midstream is a midstream energy company with a narrow moat based on its cost advantage and long-term contracts. It is highly reliant on its parent company Antero Resources, and this introduces additional risks. It has somewhat positive financial results in the last quarter, however the management seems focused on growth. The stock market reacts more to factors such as growth and production volumes, while it should be more focused on the factors which drive a business’ long term success. The company is highly influenced by its debt and commodity prices, and this makes its future highly volatile.