Marathon Oil Q1 2022 Earnings Call Transcript

Participants

Corporate Executives

• Guy Allen Baber, Vice President of Investor Relations
• Lee Tillman, Chairman, President and Chief Executive Officer
• Dane Whitehead, Executive Vice President and Chief Finance Officer
• Mike Henderson, Executive Vice President, Operations
• Pat Wagner, Executive Vice President, Corporate Development and Strategy

Analysts

• Arun Jayaram, JPMorgan Chase & Co.
• Doug Leggate, Bank of America Co.
• Jeanine Wai, Barclays PLC
• Neal Dingmann, Truist Securities
• Subhasish Chandra, Benchmark Co.

Presentation

[Operator]

Good morning, and welcome to the MRO First Quarter 2022 Earnings Conference Call. My name is Brandon, and I'll be your operator for today. [Operator Instructions] I will now turn the call over to Guy Baber, Vice President of Investor Relations, and you may begin, sir.

[Guy Allen Baber, Vice President of Investor Relations at Marathon Oil]

Thanks, Brandon, and thank you to everyone for joining us this morning. Yesterday, after the close, we issued a press release, slide presentation and investor packet that address our first quarter 2022 results. Those documents can be found on our website at marathonoil.com. Joining me on today's call are Lee Tillman, our Chairman, President and CEO; Dane Whitehead, Executive VP and CFO, Pat Wagner, Executive VP of Corporate Development and Strategy; and Mike Henderson, Executive VP of Operations. As a reminder, today's call will contain forward-looking statements subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements.

I'll refer everyone to the cautionary language included in the press release and presentation materials as well as to the risk factors described in our SEC filings. We will also reference non-GAAP terms in today's discussion, which have been reconciled and defined in our earnings materials, including reinvestment rate and adjusted free cash flow generation. Mention of free cash flow generation today refer to our adjusted free cash flow before working capital and inclusive of EG, LNG return of capital. With that, I'll turn the call over to Lee, who will provide his opening remarks. We'll also hear from Dane and Mike today before we move to our question-and-answer session. Lee?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Thank you, Guy, and good morning to everyone listening to our call today. To start, I want to thank our employees and contractors for their dedication and hard work during these most dynamic times as well as our commitment to our core values of safety and environmental excellence. In light of current events, including geopolitical tensions, economy-wide inflationary pressures and the highest global energy costs we have seen in some time. I want to briefly provide some context around the current energy market. First, we believe Marathon Oil as a global oil and gas producer has a clear and much-needed role to play in the longer-term energy landscape. This belief has only been reinforced as energy markets have struggled to respond to a confluence of factors, continued demand recovery from the pandemic, struggling global supply chain, labor shortages in a fully employed U.S. labor market and systemic underinvestment in both new oil and gas supply and the requisite infrastructure.

The invasion of the Ukraine by Russian forces has only exacerbated these pressures, upending geopolitics and creating a level of uncertainty and hostility between NATO and Russia that has not been experienced since the Cold War. The reality is that energy markets were already tightening from supply and demand fundamentals before this Russian action, and the risk premium now embedded in commodities, including oil and gas, has returned with a vengeance. Even in the unlikely event of a near-term resolution to this crisis, the die has been cast in actions, particularly by European countries are already underway to move away from Russian oil and gas and secure more reliable supply from the Middle East and the U.S. And here at home, these events are only adding to an inflationary environment that has once again put energy on center stage, inflation that impacts every American family.

It has underscored the need for an orderly energy transition that includes oil and gas as part of an all of the above strategy and has recalibrated global views as to the current and ongoing role of U.S. oil and gas and the world economy. Our mandate is clear, and it is a statement of Marathon Oil's corporate purpose. To help responsibly meet the world's growing energy needs by operating with the highest standards, prioritizing all elements of our safety, environmental, social and governance performance while delivering strong financial returns for our shareholders. Oil and gas are essential to any orderly multi-decade transition to a lower carbon future. Rather than an energy transition, it is more of an energy expansion to both meet growing world energy demand and mitigate global GHG emissions. This is not an iron ore proposition and failure on either front is not acceptable. However, our approach must be pragmatic and grounded in the free market, innovation and in all of the above energy approach.

Company strategies grounded in free market principles and a thoughtful analysis of competitive dynamics and long-term fundamentals are good for energy stability and security, the U.S. consumer and the longer-term health of our industry. At Marathon Oil, we have conviction that we are pursuing the right strategy for shareholders and stakeholders alike. It's best summarized by our framework for success on slide four of our deck, strong corporate returns, sustainable free cash flow and meaningful return of capital to our shareholders through the commodity price cycle, all underpinned by a high-quality portfolio, a bullet-proof balance sheet and a transparent commitment to comprehensive ESG excellence. Importantly, first quarter represented another quarter of comprehensive delivery against this framework. I would like to focus on three key takeaways today. First, we are continuing to build a peer-leading track record and, quite frankly, a market-leading track record of return of capital to our shareholders. Our cash flow-driven return of capital model uniquely prioritizes our equity investors as the first call on cash flow, not the drill bit.

And our continued execution underscores our commitment to our shareholders, and highlights the power of our portfolio in a constructive price environment. Over the trailing two quarters, we've returned around 60% of our CFO are over $1.4 billion to our shareholders. To clarify, that 60% of our cash flow from operations, not our free cash flow. This actually equates to almost 80% of our free cash flow over the same period. In total, we have now executed over $1.6 billion of share repurchases since last October, driving an 11% reduction to our outstanding share count in just seven months. And those shares were repurchased at a price below $19 a share, a discount of over 25% relative to today's trading price, demonstrating the power of consistent dollar averaging. We are significantly growing all of the per share financial metrics that matter most to our equity valuation. Under current market conditions and given our free cash flow yield, we continue to believe buybacks remain an excellent use of capital.

And consistent with that view, our Board of Directors has increased our outstanding buyback authorization to $2.5 billion. We also just raised our quarterly base dividend for the fifth consecutive quarter. My second key point is that first quarter was again another quarter of solid, consistent execution. We generated $1.3 billion of cash flow from operations and $940 million of free cash flow, both before working capital at a reinvestment rate of just 27%. And we returned $640 million or 50% of that CFO back to our shareholders. This strong financial performance was underpinned by solid operational execution, consistent with the guidance we provided on last quarter's call, including $348 million of capital spending and 168,000 barrels of oil production per day. My third key takeaway is that Marathon Oil represents a truly compelling investment opportunity. We've rebased our 2022 financial outlook to pricing more consistent with the current environment, $100 WTI and $6 Henry Hub.

At these prices, we expect to generate over $4.5 billion of free cash flow this year at a reinvestment rate of just 20%. That translates to a free cash flow yield of about 25% on the current equity value. That also a $1.5 billion free cash flow uplift versus the initial financial outlook we provided the market in February, net of $100 million of incremental capital inflation and at a lower reinvestment rate. This uplift highlights our unique torque to higher commodity prices due to our more advantaged cash tax outlook, preservation of our upside exposure through our hedge book and balanced commodity exposure. This includes our unique integrated gas position in Equatorial Guinea, where we are raising our annual equity income guidance by $200 million or by 67%. I've long said that our company and our sector must deliver truly outsized financial outcomes relative to the S&P 500 during periods of constructive pricing to attract increased investor sponsorship. We are successfully delivering on this obligation. I will now pass it off to Dane, who will give you a financial update, highlighting how most of the free cash flow I just mentioned will be going back to our equity holders.

[Dane Whitehead, Executive Vice President and Chief Finance Officer at Marathon Oil]

Thank you, Lee, and good morning, everyone, on the call. I'll speak to slides seven through nine of our deck, largely focusing my comments on our return of capital accomplishments and outlook. First off, our return on capital framework is summarized on slide seven and remains unchanged. In these uncertain times, we believe the market will reward consistency, transparency, simplicity and delivery. Marathon Oil has a built -- has built a hard-earned reputation for execution excellence and delivering on our operational commitments. We've likewise now established the same credibility in return of capital for our shareholders. As a reminder, our framework calls for delivering a minimum of 40% of cash flow from operations to our equity holders when WTI is at or above $60 per barrel.

This represents a return of capital commitment at the top of our E&P peer space and is competitive with any sector in the S&P 500. The overall objectives of our framework are to maintain capital return leadership versus peers in the S&P 500 maximize our equity valuation, reduced downside equity volatility by providing clear minimum capital return commitments tied to specific commodity price environments. We also aim to provide the market with transparency around the return of capital quantum while preserving flexibility to deliver that return via the most accretive and efficient mechanism in light of prevailing market conditions. Today, that mechanism is a competitive, sustainable base dividend and a material share repurchase program. Importantly, as Lee mentioned, our return on capital targets are based on our cash flow from operations, not our free cash flow. This is purposeful, intended to make clear that our shareholders get the first call on cash generation. It's consistent with our conservative reinvestment rate approach to capital spending.

And importantly, it represents a stronger commitment to our shareholders in an inflationary environment. While frameworks and commitments are important, we believe establishing a consistent track record of delivery quarter in and quarter out is ultimately key to building and maintaining trust and credibility in the marketplace. Over the trailing two quarters, we've returned approximately 60% of our CFO back to equity holders through our base dividend and share repurchases. Since October of last year or so in just over seven months, we bought back over $1.6 billion of our stock and reduced our outstanding share count by 11%, driving truly differentiated per share growth. We've also raised our base dividend five quarters in a row for a cumulative increase of 167% since the beginning of last year. Consistent with our objective is to pay a sustainable base dividend that's competitive with our peers, the S&P 500 and similarly sized industrial companies. Turning to the full year 2022 outlook on slide nine.

With no material debt maturities this year, a constructive commodity price backdrop and our commitment to capital discipline and expected reinvestment rate of just 20%, we expect to continue to meaningfully outperform our minimum 40% CFO commitment. During the first quarter, we returned approximately 50% of CFO with our pages being somewhat moderated by a negative $200 million working capital impact that accounted for about 15% of our cash flow generation in the quarter. If the current macro holds up, it's reasonable to anticipate us returning at or above this 50% level going forward. To put this into context, that would represent a total return of capital of at least $3 billion this year with upside potential. As I stated, we continue to believe that the combination of a competitive and sustainable base dividend along with material share repurchase program makes the most sense for our company. Consistent with this view, the Board again reset our outstanding buyback authorization to $2.5 billion, giving us plenty of room to continue to execute confidently in coming quarters.

And while our equity value has appreciated since we kicked off our buyback program, our free cash flow yield is actually appreciated even more. We're trading at about a 25% free cash flow yield at $100 oil. Even testing buybacks at our current share price against a longer dated forward curve of $60 to $70 WTI, our free cash flow yield is in double-digit territory. Buybacks remain a very reduced cash as we believe our equity is fundamentally mispriced. As long as that's the case, we'll continue to aggressively repurchase our own stock. It's the best acquisition we can make. We also continue to believe the disciplined share repurchases offer clear strategic advantages. In addition to driving strong underlying per share metrics that are correlated with shareholder value, they also offer clear synergies with our base dividend.

One final housekeeping topic for me before I turn the call over to Mike, and that's U.S. federal income taxes. My key message here is that consistent with what we've said before, even at prevailing commodity prices, we don't expect to pay cash federal income taxes until the second half of the decade. However, you probably noted that in 1Q, we partially reversed the valuation allowance we've been carrying on our deferred tax assets and are now booked in U.S. deferred taxes at the statutory rate. By way of background, at year-end 2016, we established a valuation allowance for 100% of our net deferred tax asset. At the time, we had built a cumulative 3-year tax loss which, along with depressed commodity prices was evidence that we may not realize our deferred tax assets in the future.

That's why we've been booking at a 0% tax rate in the U.S. since 2017. In 1Q 2022, our 3-year cumulative tax loss was a race that is now positive. And given the improvement we've recently witnessed in the macro, our strong performance and the fact that we expect to continue earning net income, we made the decision to reverse the lion's share of our valuation allowance in the first quarter. This just means we're now accruing U.S. tax expense at a normal statutory rate 21% federal and 1% state. That's important for modeling purposes because book taxes will have an impact on your EPS estimates. However, this is important, there's no impact on cash flow. The accrued tax is all deferred and has no direct bearing on the timing of our transition to U.S. cash tax paying status. I'll now turn the call over to Mike, who will discuss our 2022 capital program and associated financial outcomes.

[Mike Henderson, Executive Vice President, Operations at Marathon Oil]

Thanks, Dane. My key message today is that the priorities for our capital program remain unchanged. With higher prices, we are staying disciplined, prioritizing free cash flow generation and protecting our execution excellence. We feel very confident about delivering free cash flow, capital efficiency and operating efficiency at the very top of our peer group while maintaining a bulletproof balance sheet. First, an updated outlook of the financial performance, we expect our program to deliver this year. We have rebased our 2022 outlook to reflect the current commodity price environment, $100 oil and $6 Henry Hub. At this price deck, we now expect to generate over $4.5 billion of free cash flow at a 20% reinvestment rate and on an inflation-adjusted $1.3 billion of capital. We have also raised our EG equity income guidance by $200 million. This represents a $1.5 billion free cash flow uplift.

From the original outlook we provided at a lower reinvestment rate net of $100 million of incremental capital inflation. Even with this modest incremental inflation about 8%, our 2022 financial performance still has the lowest reinvestment rate and the highest capital efficiency of our peers. Now let me address the inflationary backdrop in more detail. As a background, we commented 2022, assuming 10% to 15% inflation based on a price view of $80 WTI and $4 Henry Hub. That's what was baked into our original $1.2 billion budget. We opted to provide a deterministic budget estimate based on this pricing outlook as opposed to a broad range. We are now assuming a $100 price environment. And if that price environment is sustained, we're going to see some incremental costs, pushing inflation north of 15% and closer to the 20% range. That's effectively for today's update of $1.3 billion reflex. And that $1.3 billion is all in capital, reflecting our total projected capital spend and $100 price world.

Part of that increase is commodity-driven, largely fuel and chemicals, which trend with WTI as well as steel. It also reflects our efforts to protect the execution of our 2022 program. Prices are high, the labor pool is thin and supply chains globally and U.S. economy-wide are very tight. We are therefore focused on securing established and trusted service providers to protect our execution excellence and deliver our business plan. To that end, we feel confident about 90% of our remaining rig time for 2022 is now secured on long-term contracts running into 2023. The majority of our pressure pumping needs are now tied down as well. We feel very good about access to both sand and steel. Although as mentioned, we do have some open steel pricing in the fourth quarter, which we have now accounted for. To be clear, we are only updating our budget for incremental inflation, assuming a sustained $100 world. We are not adding any growth capital due to higher prices.

We are staying disciplined prioritizing free cash flow and protecting execution. Additionally, our full year guidance for both oil and oil equivalent production remains unchanged despite some significant winter weather impacts in the Bakken during April, but essentially shut down the Williston Basin. With respect to the near-term outlook, we expect second quarter oil production to be flat relative to actual first quarter oil production or about 168,000 barrels per day. This is primarily due to the referenced severe winter storms in the Bakken during the month of April, which will likely have a negative second quarter impact of just over 4,000 barrels of oil per day and a similar impact on oil equivalent production. Thus, relatively flat quarter-on-quarter oil production with no change to the full year range for oil or OEBs as a solid outcome given the magnitude of the weather challenges in the Williston Basin. We do expect oil production to recover into the third quarter with second half 2022 output expected to average above the midpoint of our annual guidance. On capital spending, first quarter capex was consistent with the guidance we provided last quarter. Also consistent with what we indicated last quarter, this year's budget will be slightly first half weighted, with approximately 55% to 60% of our full year capital spend expected during the first half. There is no change to planned wells to sales overall or at a basin level. I will now turn it back to Lee who will close out our prepared remarks.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Thanks, Mike. Before we move to our question-and-answer session, I want to wrap up with the compelling investment case for Marathon Oil. Recent shocks to the global energy market are outside our control, and we'll test our sector's ability to maintain discipline while also being part of a long-term solution for the U.S. and our allies. There can't be energy security without a viable U.S. independent E&P sector. And for that to happen, as publicly traded entities, we must offer an investable thesis that competes with the broader market. We fully recognize that investors have options, so why MRO. First, we have instituted a transparent capital framework that uniquely prioritizes our shareholders as the first call on cash flow generation. Our framework is complemented by a track record of delivery, 60% of CFO to equity holders over the last two quarters. And it's my expectation that we will lead our peer space in returning capital to shareholders in 2022.

Second, when it comes to growth, our focus is not on growing production, it's on growing the per share metrics that matter most, and we have already driven underlying per share growth of 11% in the last seven months with more to come. Third, due to our balanced production mix, low corporate free cash flow breakeven, attractive hedge book and advantaged U.S. federal cash income tax position our company retains a differentiated upside leverage to commodity outperformance. We will continue to protect this upside for our investors. That is reflected in the $1.5 billion uplift of free cash flow guidance for 2022, including a $200 million increase to EG equity income. And finally, we believe the peer-leading financial and operating results we are delivering today are sustainable, underpinned by over a decade of high-quality, high-return inventory by our 5- and 10-year benchmark maintenance scenarios and by our commitment to comprehensive longer-term ESG excellence.

The continued responsible development of oil and gas is crucial to protecting the standard of living we have all come to enjoy and quite frankly, take for granted. And just as important, it's central to elevating the current standard of living for billions of people around the world, many of whom are in developing countries, living in energy poverty. Access to responsible, reliable, affordable energy is the great social equalizer and the foundation upon which the world's modern economy is built. We are proud to play our role as a responsible global supplier while also supporting U.S. energy security, which protects the U.S. consumer and serves as a powerful tool of foreign policy, providing options for both the U.S. and our allies. With that, we can open up the line for Q&A.

Questions and Answers

[Operator]

[Operator Instructions] And from JPMorgan, we have Arun Jayaram.

[Arun Jayaram, Analyst at JPMorgan Chase & Co.]

Good morning gentlemen. Lee, I was wondering if you could provide some thoughts on the broader LNG strategy and how does the company plan to take advantage of what could be a pretty strong LNG cycle post the unfortunate Russia, Ukraine situation. I do believe that your EG gas today is priced off of Henry Hub. I think that shifts in late '23 and late '24. And the big question we're getting is what type of operating leverage do you see, you guided to $500 million of equity income this year. If you're able to price that gas at a global marker and also thoughts on potentially opportunities that you may have to increase the throughput of that plant. Obviously, the Chevron assets are on the block, but I'd love to get some thoughts on EG LNG.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. Sure, Arun. Well, first of all, I'd just like to say at an enterprise level Arun, we do have a very balanced exposure to the commodity space, meaning that we're about 50% oil, 50% natural gas and NGLs. A big component, obviously, of that 50% natural gas and NGLs is our very unique asset in EG. And as you described it, clearly, that asset is well positioned to take advantage of not just the elevation in Henry Hub pricing, which is the index contract that we have today on the Alba production, but via the Alen opportunity, we are also able to take advantage of both tariffs through the plant as well as profit sharing, which is linked to TTF. So today, we are experiencing uplift by participating in the broader, I'd say, global LNG market.

Kind of stepping back and looking to the future a bit, and we've been very clear on this with regard to EG. This is a very unique asset. It's a set of world-class infrastructure, gas plant, LNG plant, methanol plant, storage offloading sitting in one of the most gas prone areas of West Africa, we are certainly a natural aggregator of gas. And our vision is that similar to our success with the Alen project that we'll continue to find enhanced opportunities to base load the train that we have there at Punta Europa. And continue to have that exposure to the TTF market and obviously, the European gas market.

[Arun Jayaram, Analyst at JPMorgan Chase & Co.]

Great. Great. Okay. And just a follow-up, Lee, you have a very -- you've been rewarded, I'd say, for your cash return strategy. You're returning a lot of cash to shareholders. One of the questions we get from the buy side is whether the cash return strategy is to pro-cyclical, 60%, 70% of CFO? And how do you think about balancing cash return with portfolio renewal?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. Thanks, Arun. I'm going to maybe let Dane take that one.

[Dane Whitehead, Executive Vice President and Chief Finance Officer at Marathon Oil]

Arun, yes, we obviously, like you to monitor what our peer companies are saying about cash return programs. And I feel for you just trying to understand because with all the colitis scope of different language and different approaches out there. We've tried to be really clear about ours. And maybe I can just for everyone's benefit, maybe just go through some of that again just to make sure it's clear and then get directly to your question around procyclicality. So obviously, we're positioned to generate a significant and sustainable amount of free cash flow. Our balance sheet is in great shape. We'll continue to pay down debt as those maturities come along. And our intent then is to return significant capital to shareholders, really want that to be competitive. We have chosen the vehicles of a sustainable and increasing over the last five quarters-based dividend along with significant share repurchases, which we execute ratably and I mean daily ratably and have been doing that over the last seven months now.

In our minimum target in a commodity price environment over $60 a barrel is 40%. We've been obviously beating that and a price environment that's quite a bit above $60 a barrel. We had built a lot of flexibility as to how we approach this return to shareholders. And so we've really consistently beat that minimum, and we expect to continue to do that. In Q4 of 2021, we returned 70% of cash flow to shareholders. We followed up this quarter with 50%. The pace was tempered a little bit in Q1 because we had a working capital beat up, if you will, of about $200 million. And that was caused. I'm sure everyone experienced, it was caused by the significant increase in oil price between February and March and that uptick in accounts receivable that turned into cash in April was actually looked at a deduct from cash flow in the first quarter. So last week, we announced our fifth increase in the base dividend. Over the last seven months, we purchased $1.6 billion in stock and taking out 11% of our shares. So to your procyclicality point, we think this is kind of undeniable.

The fact that we traded a free cash flow yield of 25%, which is -- should not exist if I go back, it should not exist in nature that kind of a free cash flow yield. But it does, which means our stock is mispriced in this commodity price environment. And so we feel like it's a very efficient way to return capital to shareholders and drive per share growth over really the most important metrics that matter to share price. You will note that over the past couple of quarters, we've been building a little bit of cash about $100 million a quarter. That, on one hand, provides us flexibility to do things like deal with working capital swings. We funded a small bolt-on in the fourth quarter of last year. In May, we're going to pay down our only debt maturity in the year, it's a little $40 million debt maturity, but we can pay it off of cash easily. That's got almost a 10% coupon on it. So good rigs, really happy to get that one out of the portfolio.

So our intent is not to continue to build sizable amounts of cash, our intent is return cash to shareholders. And through that share repurchase vehicle will be the primary vehicle as long as our share price remains dislocated as it appears to be to us. In terms of what you can expect I'll just make the other point to that we've -- I think we're very free cash flow efficient, not just because of our cost structure, but our hedge positions are extremely low drag. So certainly compared to some of our peers and we don't have any U.S. income taxes for years to come. So we're really in a good position to execute this strategy. To put a range around the cash return potential for the full year of 2022 we're kind of now assuming $106 price environment. If we return at the 50% level, that could be at least $3 billion of cash returns for the full year. On a more aspirational and if we go back and we could do this, but we're going to kind of monitor conditions as we go through the year. We repeat what we did in Q4 of 2021 returning 70% of CFO to shareholders that would represent $4.2 billion of returns or north of 20% of our market cap. So very substantial impact on shareholders and we think stock price as a result of that kind of strategy.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Also, Arun, I think you mentioned as well kind of balancing against resource opportunities as well. I would probably address that by, first of all, just restating that we do have more than a decade of capital-efficient, high-return inventory at kind of a maintenance pace, and that's really based on a pretty conservative price assumption. And obviously, that inventory would move north of that inventory life would be north of that under the current pricing environment. And that's even before taking credit for things like our success in the Texas-Delaware oil play.

We have largely replaced all of the top-tier inventory we've consumed over the last few years through organic enhancement initiatives. And if you recall, we dedicate nominally 10% of our capital program each and every year. So embedded in that $1.3 billion is investment to continue that organic enhancement initiative as well as to continue to progress things like the 4-well pad that we're doing in the exploration play in the Texas, Eldorado, which is the Woodford/Meramec play. So we don't view this as an either/or proposition. We're looking at continuing to reinvest in organic opportunities, but also being very aggressive with our return of capital back to shareholders.

[Operator]

From Truist Securities, we have Neal Dingmann.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Brandon, maybe just go to the next.

[Operator]

From Bank of America, we have Doug Leggate.

[Doug Leggate, Analyst at Bank of America]

Thanks everybody. Can you hear me? I just wanted to check my head is connected okay. Can you hear me okay?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. Doug, you're coming in loud and clear, Doug.

[Doug Leggate, Analyst at Bank of America]

Excellent thanks Lee, thanks for taking my question. So Lee, I want to have a go at tackling this EG question a different way. I think you know we've been really interested in trying to understand the operational leverage as Arun asked, but I want to ask the question a little differently. You've got windfall -- the whole industry has got windfall cash right now. And it seems to us that as the logical buyer of the Chevron assets, clearly, you mentioned yourselves being a consolidator. It could potentially transform our opinion, the outlook for that business by really bolstering the backlog of gas for the alleged EG and LNG facility. So my question is this, why you've not been prepared to talk about the commercial terms of the tolling agreement, if you own that gas organically, would it make a material difference to the free cash flow outlook had you to leaving aside the value of the acquisition potentially, but had you to own that gas, we don't make a material difference to the free cash flow was net to you for EG?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. Thanks for the question, Doug. I think, first of all, I appreciate the recognition of the contribution that we get from the EG asset. And obviously, with I think the dynamics that we're seeing in the global gas market, I think the value of EG has really bolted even ahead of maybe where we would even have placed it. I think maybe I'll start by just addressing kind of just kind of the M&A kind of element of your question first and foremost. I think for us, we are going to view all opportunities through the lens of our high-confidence organic case that delivers significant free cash flow and really a market-leading return of capital. And of course, as we just talked about, it's underpinned by this over a decade of high return inventory. So when we assess opportunities, the bar is very, very high. It's going to have to be accretive to that organic case. It's going to have to compete with a suite of opportunities that are very high quality and very high returns.

So the bottom line is the same discipline that we've been talking about and our organic program, certainly, that's going to apply in the inorganic space as well. On EG specifically, I think we have always noted EG as a core element of our portfolio. We've always noted that there is opportunity in EG to drive more gas to this very unique world-class infrastructure. I can't comment, obviously, specifically on opportunities that may be or may not be in the market but clearly, to the extent that we control our own molecules that are falling through Punta Europa, that will generate incremental value for the company. So similar to, I would say, the Alen project, which again, our third-party molecules, in this case, they're not equity molecules like Alba but the Alen molecules are very accretive. And even though we're, from an Alba perspective, maybe on a long-life low decline there, with accretive additions like a win, we're able to continue to generate very strong financial outcomes, even though our equity production may be on a bit of a decline.

[Doug Leggate, Analyst at Bank of America]

I know it's a tricky one to answer. Sorry, Lee, let me just get to the root of my question. So it would be positive if you own the assets or no?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Well, I think I would just look at it like this, just like we talk about bolt-ons in the U.S. in existing basins where we have execution confidence and experience and international bolt-on in an area where we already own and operate assets, clearly, we have high confidence in our ability to drive down.

[Doug Leggate, Analyst at Bank of America]

Okay. Sorry for flooring that one. My follow-up is real quick. Obviously, gas in the U.S., I'm curious how this changes your thoughts on capital allocation, inventory depth, specifically in the Anadarko. Obviously, we're facing a very different gas environment today than perhaps the original planning assumption as well. I'll leave it there.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. No, thanks, Doug. Yes, I go back to a few of my earlier comments, which is one of the positives we have in our portfolio today is that we do have broad exposure across the commodity complex. That 50% again of our exposure is in gas and NGLs. Obviously, some of that domestic, some of that through the EG asset. We are allocating about 25% of our capital this year to the Permian and Oklahoma, that's up significantly relative to last year. This is a -- I think this is a time though where the commodity complex is really lifting all. So oil and gas are both which has the net effect of uplifting the economics of the whole portfolio, not just the combination play that might be more reliant on natural gas.

But clearly, those opportunities look very, very strong. And back to my earlier comments that when we talk about our inventory and inventory like that's typically predicated on a very conservative view of forward pricing. Think about it more in terms of $50 WTI, $3 Henry Hub. And so to the extent that we were to apply a different price deck to that, obviously, the top tier component of that inventory would increase and we would likely bring more inventory into the economic window, even on projects like, for instance, are the work that we're doing today in the Woodford/Meramec and the Texas Delaware oil play, I want to emphasize, that is an oil play. Obviously, it's high pressure and we associated gas that comes with it. But that's a great example of another opportunity that was already moving to compete for capital. But now in the current commodity pricing will be even that much stronger and may allow us to even drive more inventory from that opportunity.

[Operator]

From Barclays, we have Jeanine Wai.

[Jeanine Wai, Analyst at Barclays]

Hi good morning everyone. Thanks for taking my question. Our first question maybe for Lee or Dane, hitting back on the cash returns. Dane, you provided a lot of helpful color in response to Arun's question. And we just wanted to dig a little bit further into the parameters of getting to that full 70% upside case. You mentioned that you're going to monitor conditions and based on our free cash flow forecast, Marathon can continue to build a healthy amount of cash, even if you're paying out at the 70% level. So I just wanted to know if you had any more color on the parameters that might get you to that 70% case?

[Dane Whitehead, Executive Vice President and Chief Finance Officer at Marathon Oil]

Yes. Jeanine, let me pick a crack at that, and Lee may want to chime in as well. We are certainly, I think, part of your question is, are we responsive to macro conditions and business conditions and how we kind of throttle our share repurchase program. And the answer to that is yes. We are. We saw a significant uptick in cash flow in Q4 and felt comfortable taking it all the way up to that 70% level in the first quarter this year, as we guided, we kept it at 50%. We did experience that impact of the working capital deduct, if you will.

So we kept that in mind. If you look at the pace of repurchases year-to-date, it's $900 million and in Q1 proper was $592 million. That will apply if we increase the daily pace of purchases in the second quarter in response to operating cash flow improvements and commodity price and other things that are driving that. So we'll be responsive to macro conditions and also other considerations along the way. And that's why we're not being -- we try to be pretty formulaic and pretty specific to get you to that 50% guidance and let you know clearly there's upside to that, but I can't paint a more of a bright line to the 70% and all the considerations. We are very committed to consistent strong returns to shareholders through share repurchases. Hear that loud and clear and I think you demonstrated that as we started Q4.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. Jeanine, maybe if I could, this is Lee. I think you should expect that there's going to be some natural variation quarter-to-quarter in the delivery against that percent CFO. As Dave mentioned, we're going to be forward looking at where the commodity prices are headed. We're going to think about the unique features of that quarter. For instance, as Dave mentioned, fourth quarter, we definitely had some tailwinds that helped us. When you think about that was the peak oil production for the year, we had a significant EG dividend in the fourth quarter. We had some natural decline in capex from an activity standpoint and also there were a lot of unique features that allowed us to stretch to that 70% target.

Similarly, as Dave mentioned in the first quarter, we had some headwinds there. We had a bit of a working capital negative that we had to account for. So all of those will be sued into that forward. Look, and remember the 10B programs are typically looking ahead 30 to 45 days. But they don't restrict us from doing -- once we set that base program, we can still enhance that program using 10B-18 instruments along the way as perhaps we do take advantage of some of those tailwinds that might present in any given quarter. But we kind of look through the quarters. And our view is that we want to be certainly now in the current price environment at or above that 50% CFO going forward through the year. And we're clearly going to look for opportunities to beat that when we see those kind of unique features in a given quarter.

[Jeanine Wai, Analyst at Barclays]

Okay. Great. That's really helpful. We love our model, but we can appreciate. It's not that simple in real life. Okay. Moving to inflation. In the current environment, there's inflationary headwinds or supply chain headwinds. Can you provide a little more color on how Marathon is positioned in both of these? In particular, like a lot of your peers have given this percent of total well cost that's locked in. You mentioned you have 90% of your rigs locked in, a bunch of your pressure pumping. So maybe if you have that percentage, it would be helpful for us for comparison. And maybe also how is your planning process for 2023 different from prior years or just trying to figure out implications for next year?

[Mike Henderson, Executive Vice President, Operations at Marathon Oil]

Jeanine, it's Mike. I'll take a stab at that one. So as we highlighted this morning, we came into the year assuming 10% to 15% inflation that was based on that $80 WTI, $4 Henry Hub environment. Again, as we announced, we're kind of rebasing that outlook. We're going to assume a $106 price environment. Those prices are sustained. We're going to see some incremental costs. And really that was hoped baked into the announcement, certainly recognize the market is tight across the board. It's likely going to stay that way if prices are sustained. Activity levels, particularly the privates have increased accessing labor has become a real challenge. And I think as a result of that, we're all seeing a tighter market. Maybe specific to the update today, what I'd say is out of the $100 million increase I would say 50% of that is directly linked to commodities. So fuel and chemical costs, which have been trending higher with WTI, we've got factored in there.

We also mentioned, we're also anticipating some higher steel costs later in the year, just with the sustained demand and supply constraints. I think just given that backdrop, given the price environment, given how tight everything is. Our focus and our priorities probably shifted to more securing, I guess, protecting and securing our ability to execute. I think that accounts for the additional 50% of the increase that we announced this morning. Again, we discussed having 90% of our remaining refinement 2022 locked and secured on contracts. Some of those do run into 2023. Similarly, pressure pumping, we've got majority of the scope time down there. I think it is worth highlighting here that in both of those areas, we are termed off of companies who we're currently working with. So we've got some established relationships and quite frankly, we do an excellent job for us. On the sand front, I'd say we're close to 100% of our needs secured for the year. And mentioned steel, we've got capacity secured for all of the year, but there is a little bit of open pricing in the fourth quarter.

So maybe how I'd characterize it, we've locked down and accounted a large percentage of our 2022 spend, but I think you got to recognize that the market is fairly dynamic. And maybe as it relates to 2023 and our plans there, I think it would be fair to say we're starting a little bit earlier than maybe we would normally. Again, I mentioned we do have some contracts rolling over into '23. So rig, sand, steel. We've also got some hydraulic horsepower options. Some of those are index plan. And certainly if we were to make sense, we're going to look for leverage our 2023 program early to really not try to secure access and even favorable terms. But I mean, it is a volatile fairly dynamic market. We're cognizant of that. So it's difficult to predict when things are going to come down, but I think it will. And I think it's just, therefore, important that we do strike the right bonds as we look forward into 2023.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

I think, Jeanine to your question around, how are we thinking about it differently? Obviously, we haven't been in an inflationary environment for quite some time. And so kudos to our supply chain team. They have leverage stepping in to a little bit of 2023 to help us really secure some of that execution confidence and certainty that we need to deliver the 2022 plan. So I think the difference is we're having to step into 2023 a little bit earlier, kind of with that maintenance activity mindset and start building upon that and getting ready for what will continue to be a very dynamic market that I think is challenging for anyone to predict right now. So the best thing we can do is get started a bit earlier.

[Operator]

From Truist Securities, we have Neal Dingmann.

[Neal Dingmann, Analyst at Truist Securities]

Good morning guys. Lee, my first question maybe for you or Dane on hedging. I'm just wondering, given your ironclad balance sheet, you all have appropriately refrained from putting on hedges, how it's interesting today to see some of the natural gas collars available? Does this cause you to potentially reconsider the plans?

[Pat Wagner, Executive Vice President, Corporate Development and Strategy at Marathon Oil]

Neal, this is Pat. I'll take that one. Yes, you probably saw in our release that we did just recently take some 5 x 19 and 2-way gas collars. And just the market was there for us and a good opportunity to send the floor [Indecipherable], so we did that. But to your broader question, given our strong financials, and I think we covered this a little bit last time, we've intentionally kept that leverage for our shareholders to the upside. So we're minimally hedged particularly compared to our peers. We've kept that in for our shareholders to participate in that.

And then a bit of oil hedging we have done, we've intentionally link that to our return on cash framework. So most of our 3-way collars are set to the floors around $60, which ties to our minimum of 40% cash flow from operations back to the shareholders. I think as we've talked about, it's just one component of how we look at our commodity risk management. We have a strong balance sheet, our low breakevens. So we don't see a need at this point to go and lock on a bunch of hedges. I think we can be patient and opportunistic, just like we were recently with gas entity.

[Neal Dingmann, Analyst at Truist Securities]

No. It's great to hear. And then just a follow-up on EG, the asset continues to generate very strong free cash flow. Do you all have the ability to develop these capacity? Or just could you talk about potential upside, further potential upside in EG?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. I think for -- Neal, this is Lee. I think for EG, Neal, the goal there is clearly to take advantage of what's in the market today. I mean, we have the Alba molecules essentially linked to Henry Hub it only through the end of 2023. And then we can renegotiate that deal based on market conditions at the time. The Alen, third-party molecules are a little bit different. We get the tariff uplift plus kind of a percentage of proceeds linked to TTF on the back end of that. The goal right now really is just to continue to maintain and load the train, the baseload of the train that we do have at EG LNG. And Alen, we view as a great bridging project to really load in the interim while we continue to pursue other backfill opportunities. But that's infrastructure that we've already invested in, it's there. And so the best use of that infrastructure is to fully load it. And so we're already clearly thinking about what comes after a land, what's next to allow us to drive more gas to the baseload LNG train that we have in EG. So that's really the focus, Neal.

[Operator]

From Benchmark, we have Subhasish Chandra.

[Subhasish Chandra, Analyst at Benchmark]

Yes. Lee, so your strategy has been a winning strategy, right, clearly. Just trying to, I guess, reconcile that with what seems to be the message in your intro of a more prominent role for U.S. hydrocarbons globally, etc., etc., with the sort of commitment more or less to a maintenance program and optimization of return of capital program. So just trying to understand, is there a point where the curves cross that would maybe have you played a more aggressive role in what seemed to be in your commentary?

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Yes. No, great question. I think my starting point would be that, first and foremost, obviously, we strongly condemn the Russian aggression that we're witnessing against the Ukrainian people. And just to be very clear, we have no operational exposure or dealings with Russia whatsoever. But to your point, I mean, when we think about our strategy, we think about it more from a long-term perspective. The crisis that we're in today is something that clearly is serious, but it is a near-term point-in-time crisis. And if you recall, also in my comments, I made the statement that there were already supply and demand fundamentals that we're tightening the market in the base case even before we saw some of these geopolitical events unfold.

Our strategy is going to remain premised on discipline and the reason I think that's important is that without that discipline, without having an investable thesis, then we're not going to have a domestic E&P business to lean on, whether it's in normal times or at a high point in the cycle like we're experiencing today. So I think we do have the right strategy. We do have within our framework an ability to grow up to 5%, if that makes sense from a financial delivery standpoint. But clearly, any action that we would take today would have little or no impact on the market that we're experiencing. I mean, for one thing, I mean, obviously, our volumes are 0.02% of the global volume. So even from a materiality standpoint, they could not move the needle but also just the practical side of the cycle time, even though we're a short-cycle business, if we start investing today, we're still six months to longer out in time and that investment would be made in a hyperinflationary environment where we can't really count on labor, we can't really count on supply chain to be able to support that.

And then I think, finally, I think that we have to recognize that this still is a capital-intensive business. I mean, we reinvest more of our cash flow than the S&P 500 average just to keep our business flat. And I think sometimes that's lost on folks. So even though there is not growth capital per se, there's an incredible amount of capital that has to be put to work just to keep the production where it is. I think stepping back beyond just Marathon, I think the positive is that coming out of the pandemic that there is going to be some natural growth in the U.S. liquids space. And I think that is going to support markets and ultimately will help with the price side of the equation. But our expectation is that capital discipline still rules, that is the model to be. We're going to be focused on that financial delivery and by keeping a healthy company and a healthy sector we are going to deliver that energy security that we've seen really come under threat because of some difficult policy decisions perhaps made both here in the U.S. as well as elsewhere.

[Operator]

Thank you. We will now turn it over to Lee Tillman for closing remarks.

[Lee Tillman, Chairman, President and Chief Executive Officer at Marathon Oil]

Right. Thank you for your interest in Marathon Oil and I'd like to close by again thanking all of our dedicated employees and contractors and their commitment to safely and responsibly deliver the energy the world needs now more than ever. Thank you very much.

[Operator]

[Operator Closing Remarks]