Freehold Royalties Ltd
TSX:FRU
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Freehold Royalties Ltd
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Good morning, ladies and gentlemen. Welcome to the Freehold Royalties Ltd. 2019 Year-end and Fourth Quarter Conference Call. Please be advised that certain statements on this call constitute forward-looking information. All statements other than those of historical facts may be forward-looking, and we caution the listener. I will now pass the call over to Tom Mullane, Chief Executive Officer. Please go ahead, Mr. Mullane.
Good morning, and thank you for joining us. On the call from Freehold are David Hendry, our CFO; David Spyker, our Chief Operating Officer; Matt Donahue, our Investment -- IR and Capital Markets Manager. We also have Bob Lamond, our Asset Development VP; and Michael Stone, VP, Land. Before we go into some of -- over some of the highlights associated with our 2019 results and our outlook for 2020, I would like to welcome David Hendry, our new Chief Financial Officer; and Rob King, our new VP, Business Development, who is here. Both Dave and Rob will be key members of our team as we strive to maximize value for our shareholders. Freehold offers dividend sustainability, oil production and reserve growth and an attractive return to our shareholders. Operationally, 2019 royalty production averaged 10,229 BOEs a day, down 4% versus 2018. The decrease year-over-year reflected lower third-party drilling on our royalty lands primarily associated with reduced natural gas drilling. Oil and NGL volumes averaged 5,701 barrels per day for the year, down 3% versus the previous year. However, we have seen growth in our oil volumes through the second half of 2019. Royalty production volumes for the fourth quarter averaged 10,315 BOEs a day, up slightly versus Q4 2018 and the previous quarter. We grew our oil and liquids volumes by 4% quarter-over-quarter and 5% year-over-year, reflecting increasing oil-focused drilling. For 2019, royalties, as a percentage of production, 96%, and operating income, 100%, represented all-time highs for freehold as we remain focused on enhancing the quality of our underlying asset base and our sustainability. Looking into our 2020, we have unveiled our production guidance and are forecasting royalty volumes to average between 9,750 barrels a day, BOEs day, and 10,250 BOEs a day, a slight decrease over our fourth quarter average. Our production forecast includes third-party royalty additions from 20 net wells forecast to be drilled in our well -- on our lands in 2020. Macro -- the Canadian macroeconomic environment continues to be challenging for producers due to a number of egress infrastructure constraints, along with the current commodity environment. And with that, we are taking a conservative outlook for the year. We also note that our 2020 production forecast does not include acquisitions. As part of our 2019 results, we unveiled our year-end reserves. Some of the highlights included proved plus probable net reserves totaling 31.7 million BOEs, up from 30.9 million BOEs a year earlier. 2019 proof plus probable royalty interest reserve additions replaced 129% of production, a testament to the quality of Freehold's underlying assets and recent acquisitions. On the activity front, a total of 641 gross, 20.8 net wells were drilled on our royalty lands in 2019. This represented 11% decrease on a gross measure and a 2% decrease on a net measure versus activity levels in 2018. 96% of all drilling on our lands in 2019 targeted oil and liquids. 22% of all drilling occurred on our mineral title acreage, with the remainder on gross overriding royalty lands. The Viking, both in Alberta and Saskatchewan, continued to be the anchor development in 2019, with greater than 100 gross wells drilled on our lands by a private Viking producer. We also have seen a resurgence in drilling in Southeast Saskatchewan and continued strong drilling in Northwest Alberta Cardium and Central Alberta Clearwater formations. We completed $36 million in value-enhancing acquisitions in 2019 compared to $62 million in 2018. Acquisitions included a gross overriding royalty with drilling commitments on certain light and medium oil reservoirs in Central and Northern Alberta and Southwest Saskatchewan. We completed our first U.S. royalty transaction acquiring quality royalty assets in North Dakota for USD 9.8 million. For 2020, we believe there are acquisition opportunities both in Canada and the U.S. as we focus on enhancing value for our shareholders. Our leasing team completed 93 new lease agreements in 2019, down slightly from 2018. We believe leasing activity resulted in approximately 2 net wells in 2019, with the expectation this trend continues in 2020. Since inception, our leasing team has completed over 300 new lease agreements. Leasing activity was focused in East Shale Duvernay, Cardium, Frobisher, Midale, Viking formations. I'll now pass the call to David to walk through some of the financials.
Thanks, Tom, and good morning, everyone. Financially, we continue to deliver on our dividend payout and debt threshold objectives and position Freehold as a lower-risk oil and gas investment. At the current share price, we generate a dividend yield of approximately 10% that is fully funded at current commodity price levels. This demonstrates that Freehold is one of the more defensive Canadian oil and gas companies. In 2019, Freehold generated $141.4 million in royalty and other revenue, down 3% versus 2018, reflecting slightly lower production volumes. Royalty revenues totaled $136.8 million, which is flat versus the previous year as higher realized prices offset slightly lower production volumes. We also continue to emphasize value protection on our royalty lands through our audit compliance function, which recovered approximately $3 million of incremental revenue in 2019. Owner's consideration and lease rentals totaled $1.1 million for 2019, down from $3.8 million in 2018, as our leasing efforts focused more on well commitments and less on bonuses over the year. Total royalty revenue was comprised of 88% oil and NGL. Our royalty portfolio generated an operating netback of $36.56 per BOE in 2019, a 4% increase year-over-year, reflecting an improving oil price environment. Funds flow from operations for 2019 totaled $118.1 million, down 3% from 2018 levels. Funds flow from operations were impacted by a slight decrease in production volumes offset by an improvement in realized oil prices. Our payout totaled 63% in 2019, up slightly from 61% in 2018. This remains at the low end of our outlined payout strategy of 60% to 80% of funds flow from operations. In total, Freehold generated approximately $43 million in free cash flow during 2019, which we allocated towards value-enhancing acquisitions. As part of our 2019 year-end release, we announced that our Board of Directors had approved maintaining our monthly dividend at $0.0525 per share or $0.63 per share annualized. The current payout levels are in line with our previous stated dividend policy. Based on our current guidance and commodity price assumptions and assuming no significant changes in the current business environment, we expect to maintain the current dividend rate through 2020. We will continue to evaluate current commodity price environment and adjust the dividend as appropriate. Freehold closed with net debt of $94.6 million, representing 0.8x net debt to funds flow from operations. Net debt increased versus the same period last year as a result of our 2019 acquisition activity. Our debt strategy is to maintain net debt to funds flow from operations below 1.5x, and we expect to remain within this range while maintaining a dividend payout between 60% and 80%. Now back to Tom for his final remarks.
Thanks, Dave. In closing, we executed the core aspects of Freehold's strategy in 2019 and maintained Freehold's identity as a lower-risk oil and gas investment in Canada and in the United States. With our excess free cash flow over and above our dividends, we acquired value-enhancing acquisitions and forged new business opportunities in North Dakota. We continue to maintain significant flexibility in our balance sheet while maintaining sustainability in our dividend. At current share price levels, we feel the return proposition is an attractive entry point for investors and sustainable in the current commodity environment. In terms of how we expect to allocate free cash flow in the near term, our preference is to take advantage of acquisition opportunities as they present themselves. The ability to access capital, both equity and debt, remains a challenge for many Canadian E&P producers, and we believe we can serve as a financing tool through the creation of new royalties in Canada and in the United States as well. If we are unable to complete acquisitions with our free cash flow, we expect to pay down debt. Thank you for joining us on this conference call, and we'll now entertain any questions.
[Operator Instructions] The first question is from Dennis Fong.
I've got two here. The first is really -- it's only -- I've asked it in the past. I'm just curious as to how your -- I guess your strategy around incentivizing activity on your current or already leased lands is progressing, especially given the oil price pullback? And if maybe you can provide a couple of examples of initiatives that you're pursuing right now? Then I've got a second one.
Okay. Dennis, I'll take that. So what we're doing, Dennis, is specifically on areas where we find secondary recovery, et cetera, we do incentivize drilling to encourage more reserves, a win-win for everybody and development. We also look at incentivizing producers that commit wells, also producers that perhaps can accelerate development from where we think it'll have to occur naturally. This will be a win-win for both us and for producers.
Okay. And then my second question here is just, I know kind of looking into the U.S., just wanted to kind of understand the pipeline or what you guys are seeing at the pipeline of potential U.S. acquisitions. Kind of the level in -- the level of interest in kind of further potential acquisitions from your counterparties or potential counterparties as well as how we should be thinking about, I guess, the level of activity you guys are seeing on your lands from your first 4 rates up this quarter?
Dennis, it's Rob King here on the business development side. In terms of what we're seeing so far in 2020 for U.S. opportunities, we've been encouraged by the number of mineral title opportunities that we've had an opportunity and are reviewing right now in North Dakota. I would say there have been several processes that have been pulled so far in terms of -- in light of the market conditions. But there continues to be a number of both small- and larger-sized mineral title opportunities that we are actively reviewing and expect that we will continue. On the production side in North Dakota, we exited the year with just over 200 barrels a day, and that's been steadily increasing as the number of the ducts that have been coming online in Q1 are being added to that production base. And so we're now exceeding our expectations of what those assets would provide from a production standpoint.
The next question is from Christopher MacCulloch.
Yes. It looks like you guys posted another strong quarter here for oil production growth from your royalty interest assets. So I think Dennis kind of alluded to in some of these questions before, but maybe you could provide us with some color here as to how Q1 drilling activity is actually winding up here relative to your '20 net well guidance?
This is Bob Lamond, I'll field that question. Yes, I mean our guidance has been actually really strong from what we've been seeing. And so while the province, in general, in Canada, in general, has been down, we're actually seeing really constant and steady drilling on our lands. And we're very happy at least with our projections of over 20 wells per year. We see Southwest Saskatchewan and a few of our acquisitions from last year still continue to be very -- yes, continuing at the same pace as we saw in the past year. So while, yes, the rest of the province, we'd like to see everything going up, we were really quite happy with our numbers to date. And the drilling continues in our strongest fields that we've seen in the past.
[Operator Instructions] The next question is from Jamie Kubik.
Tom, you talked a little bit about capital allocation in 2020 of using free cash flow towards potential acquisitions and then debt. But when could buybacks conceivably become part of the structure for Freehold? And can you talk a little bit about the company's philosophy around that?
Yes. Right now, we're seeing -- even at these stock price levels and cash flow projections per share, et cetera, we do see acquisitions that can be accretive to our existing cash flow per share. So we continue to look at acquisitions. When we look at an acquisition, we do compare it against buybacks just to make sure that we are doing the right thing on capital allocation.
Okay. And I guess when could we possibly see an NCIB in place from Freehold? Is that something we should think about at all? Or no?
It is something we review constantly. We have no plans right now to put it in place.
There are no further -- I apologize, we now have a follow-up question from Dennis Fong.
Sorry. I just had a quick follow-up. I was actually hoping to maybe get a bit of an update around the CRA process that you guys announced in the previous quarter.
Yes. Thanks, Dennis. It's Dave Hendry here. So our last correspondence with the CRA was in the fall of 2019. So we did report that it would take -- likely take quite a bit of time for the CRA to respond. And so the process was they were requesting additional details in order to come to a final position or at least an updated position, and we've been waiting for that since the fall. And so ultimately, that's a good sign, I think, is that it's been a number of months and we haven't heard anything back from them. So I think our position is strong, that we're continuing to believe that dependable, and so we report it. But until we get something back from the CRA, I think, our disclosure is as factual as we got at the moment.
The next question is from Luke Davis.
You obviously remain very focused on M&A. This is more of a question for Rob. You've been in the seat for a couple of months now. Has there anything strategically changed in terms of how you're looking at the market?
Luke, no, I don't think so. I mean I think it's still -- we still see opportunities in the U.S. in North Dakota. We still see opportunities in Canada as well. And so I think we are actively reviewing mineral title deals as well as GORR OE opportunities on both sides of the Board.
Do you see much opportunity for mineral title in Canada?
At the margin there is, I think there's probably more opportunity in the gross overriding royalty space.
And there are no further questions registered at this time, so I will turn the meeting back over to Mr. Mullane.
Well, thank you very much, and thank you, everyone, for joining us at -- in this conference call. We are pretty proud of our quarter, very solid quarter. We outperformed the industry as far as drilling on our lands, and we continue to be a lower-risk investment vehicle in the oil and gas space that provides a meaningful return to shareholders.
Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.