MEG Energy Corp

TSX:MEG

Earnings Call Analysis

MEG Energy's Robust Performance Drives Shareholder Returns

In Q3 2024, MEG Energy produced 103,300 barrels per day, achieving a low operating expense of $5.82 per barrel. The company generated $362 million in adjusted funds flow, resulting in $221 million of free cash flow, allowing for debt repayment and a $0.10 quarterly dividend starting January 15, 2025. The expansion of TMX improved market access and reduced WCS differentials to around $12 per barrel, showing a $9 improvement year-over-year. Despite some production trend shifts due to earlier adverse conditions, MEG maintains a balanced approach to capital allocation, poised to achieve a 3-5% compound annual growth rate (CAGR) with top-tier capital efficiency on upcoming projects.

Solid Q3 Performance Amid Market Fluctuations

In the third quarter of 2024, MEG Energy showcased resilient operational performance, achieving an average production of approximately 103,300 barrels per day. Despite challenges posed by cold weather and wildfire impacts earlier this year, the company reported top-tier efficiency with a steam-to-oil ratio of 2.36. This solid production base underscores MEG's commitment to maximizing the output from its world-class Christina Lake assets.

Cost Discipline and Financial Strength

Operating expenses remained competitive at $5.82 per barrel. Notably, 62% of energy operating costs were offset by power sales revenue due to low natural gas prices and cogeneration units. Capital investments reached $141 million, with a keen focus on field development and moderate capacity growth projects. Year-to-date, the company has generated a robust free cash flow of $221 million, aiding in repaying debts and significant share buybacks totaling $303 million.

Return of Capital Strategy Introduces Dividends

In a significant move for shareholders, MEG announced its inaugural quarterly dividend of $0.10 per share, set for payment on January 15, 2025. The company plans to maintain a stable dollar outlay while increasing the per share dividend as production rises, reflecting a strategy aimed at consistent and growing shareholder returns. The commitment to return 100% of free cash flow to shareholders emphasizes MEG's financial strength and dedication to enhancing shareholder value.

Enhanced Market Access with TMX

The completion of Trans Mountain Expansion (TMX) operations provided MEG with improved access to global oil markets. This development led to a significant narrowing of Western Canadian Select (WCS) differentials, which settled around USD 12 per barrel for November. The expectation is for these differentials to remain between USD 10 and USD 15 per barrel going forward, aiding in pricing stability in a volatile market.

Long-Term Growth Initiatives and Strategic Projects

Looking ahead, MEG outlined plans for moderate growth and capital expansion projects, with production growth targeted at a compound annual growth rate of 3% to 5%. The company emphasizes a top decile capital efficiency goal, aiming at $20,000 to $25,000 per flowing barrel. These projects, including the development of a third processing train and further steam capacity enhancements, are key to sustaining long-term operational performance. The strategic focus on resource quality will drive continuous improvements in efficiency and output.

Navigating Market Volatility and Future Outlook

Despite the current market volatility, MEG’s management expressed confidence in their balanced approach to growth and returning capital to shareholders. The company intends to remain cautious with capital spending while navigating potential commodity price declines. MEG's strong balance sheet, with no looming major debt repayments until 2029, positions it favorably to implement its strategy and maximize shareholder value through the commodity cycle.

Earnings Call Transcript 2024-Q3

[Operator]

Good morning. My name is Kelvin and I will be your conference operator today. At this time, I would like to welcome everyone to the MEG Energy's 2024 Q3 Results Conference Call. [Operator Instructions] Ms. Darlene Gates, CEO. You may now begin your conference.

[Darlene Gates, executive]

Thank you, Kevin. Good morning, everyone, and thank you for joining us to review MEG Energy's Third Quarter 2024 financial and operating results. With me on this call this morning are Ryan Kubik, our Chief Financial Officer; Lyle Yuzdepski, our Senior Vice President of Legal and Corporate Development; and Erik Alson, our Senior Vice President of Marketing.

I'd like to remind our listeners that this call contains forward-looking information. Please refer to the advisories in our disclosure documents filed on SEDAR and our website for more on these disclaimers.

I'll keep my remarks brief today. If you'd like further detail on our third quarter results, please refer to yesterday's press release. Our team's unwavering focus on safety, operational excellence and disciplined capital allocation has delivered another quarter of solid results.

MEG's success comes from doing what we do best maximizing value from our world-class Christina Lake asset while maintaining cost discipline and operational reliability. We achieved two important milestones this quarter, reaching our net debt target and announcing our inaugural quarterly dividend. Combined with our commitment to return a 100% of free cash flow to shareholders, these actions demonstrate our focus on delivering enhanced shareholder returns.

A continued focus on strengthening our safety culture was present throughout the third quarter as our team and contractor partners delivered safe, reliable and predictable performance. The third quarter production averaged approximately 103,300 barrels per day and was delivered at a top-tier steam-to-oil ratio of 2.36. We began seeing the second of our 2024 SAGD well pads and the pad is scheduled for start-up in December.

Despite a 1-month delay due to the July wildfire evacuation, we progressed from completion of drilling in June to first steam injection in September, which demonstrates the shorter cycle time of our new pad design. It also is reflective of the exceptional efforts and collaboration of our drilling projects, commissioning and operations teams.

Operating expenses net of power revenue in the third quarter continued to be industry leading at $5.82 per barrel, which included nonenergy operating costs of $5.18 per barrel. Low natural gas pricing and our cogeneration units continue to benefit our business with power sales revenue offsetting 62% of the energy operating costs.

Capital investments for the quarter totaled $141 million, directed towards field development activity as well as increasing investment in moderate capacity growth projects. We remain focused on delivering on our 2024 commitment. And while guidance remains unchanged, production is trending to the low end of the range due to the cold weather and wildfire impacts earlier this year.

Third quarter revenue reflects the first full period of TMX operations, providing reliable access to global markets and delivering on its promise of improved market diversification. The increased egress capacity provided by TMX has contributed to a meaningful reduction in WCS volatility with November differentials settling near USD 12 per barrel representing roughly USD 9 per barrel improvement over the same period last year. With relatively low inventories of heavy crude in North America and reliable egress pipeline operation, we expect differentials to remain narrow in line with our expected USD 10 to USD 15 per barrel range.

To date, we are pleased with TMX's performance and its fundamental improvement to Canadian heavy oil pricing. The project demonstrates Canada's commitment to responsible energy development, helping meet global demand while driving economic growth.

Our strong operational performance generated $362 million of adjusted funds flow in the quarter. After $141 million in capital expenditures, MEG generated $221 million of free cash flow facilitating the repayment of our remaining 2027 notes and the repurchase of 4.1 million MEG shares, returning $108 million to shareholders.

Year-to-date, share repurchases totaled over 11 million MEG shares or $303 million. With our remaining notes now maturing in 2029, our strengthened balance sheet supports sustainable shareholder returns through the commodity cycle. The successful execution of our balance sheet strategy marks the beginning of an enhanced capital return framework for our shareholders. As part of this framework, MEG's Board of Directors has declared our next quarterly dividend of $0.10 per share for payment on January 15, 2025.

Moving to Pathways Alliance. This project continues to advance its proposed foundational carbon capture storage project. The alliance is working with federal and Alberta governments to obtain sufficient levels of fiscal support and the required regulatory approvals and certainty necessary to make this project a reality. This support is needed to derisk the investments required to build a competitive clean economy and help meet Canada's climate goals.

As I bring my remarks to a close, I want to recognize everyone on the MEG team for their continued commitment to safe, reliable and predictable operations. This quarter, our team demonstrated clear focus on our operational priorities, which ensure the safety of our people, the safety of our communities and the performance of our business. With strong operating performance and financial strength, MEG is well positioned to continue delivering long-term value to our shareholders. We look forward to sharing more details about our multiyear plan when we release our budget.

On behalf of MEG's Board of Directors and our management team, I want to thank you for your continued support. With that, I'll turn it back over to Kelvin to begin the Q&A.

[Operator]

[Operator Instructions]

Your first question comes from the line of Greg Pardy, RBC Capital Markets.

[Greg Pardy, analyst]

Thanks for the rundown Darlene. A couple of quick ones for you today. I mean I know you've just inaugurated the dividend. But as you think about that dividend on a go-forward basis, is the idea to keep the absolute outlay roughly stable and then adjust the unit levels? Or are those decisions going to kind of be taken in due course?

[Ryan Kubik, executive]

Greg, it's Ryan. The strategy really is to build a track record of stable and rising dividends over time. And that's going to happen naturally in two ways. The first way is as we raise production through our long-term moderate growth strategy here. We're going to raise the cash-generating ability of the business and we'll grow the dividend naturally through that piece. In the meantime, while we're building out that capacity, the intent is to keep the per share dividend amount we pay each quarter relatively stable, which means the dollar outlay, I guess, each quarter is going to fall as we buy back stocks. But the intent would be to raise the per share dividend amount, at least once per year, keep the annual dollar outlay relatively stable.

[Greg Pardy, analyst]

Okay. Okay. I think I got that one. And then secondly, Darlene, you touched on Trans Mountain. Just curious if there's any color you can provide us with in terms of how the marketing is going and the other thing that just stood a little bit, again, not a modeling question per se, but was there anything anomalous in your transportation and selling costs? They just looked a touch higher than we expected?

[Darlene Gates, executive]

Thanks, Greg. Well, you know we've got our expert [indiscernible], so we'll have Erik jump in and share some of his thoughts.

[Erik Alson, executive]

Thanks, Greg. It's Erik. Yes, our marketing capabilities for TMX are enhanced by the offtake partnership that we have with a global operator. That partnership is working well and it's enabling sales flexibility for us and netback enhancement. So we are seeing that come through. In terms of the -- your question around the transportation costs, I think the slight raise that you would have noticed is really a function of the committed egress that we have. So MEG's egress capacity is 80% of our production. So that's the amount that we have access to tidewater and global pricing. With that move and the start-up of TMX, you see the pricing related to additional tolls for TMX coming in line.

[Operator]

Your next question comes from the line of Neil Mehta of Goldman Sachs.

[Neil Mehta, analyst]

Yes. And so I just want to love your perspective on how you're thinking about the macro. Obviously, it's been very volatile with a little bit of downward pressure on commodity prices. And does that change the way that you approach the next couple of years of capital allocation? And as you balance between growth and return of capital, does the magnitude of non-OPEC supply growth or OPEC spare capacity make you want to focus a little bit more on cash generation versus growth. So just your perspective on that?

[Ryan Kubik, executive]

Neil, it's Ryan calling -- Ryan talking. I would say that we are confident in the strength of the business at this point in time. We've spent a lot of years reducing leverage in the business and we're at the point where our leverage has us very confident in executing the plan. So as we look forward, yes, we're going to see volatility. We still do believe that the strategy of building this moderate capacity growth as we move forward makes sense. Those projects are very economic at prices down well below where we are today. So we know we can execute that strategy, and we've got the balance sheet to execute it as we go forward.

So always mindful of volatile commodity prices and planning for kind of movements down in that commodity price. But where we are today, we have the balance sheet strength to execute and those projects are highly economic as we move forward. I will say this that we do -- we will be careful about reducing capital as we start to see commodity prices decline. And the intent surely is not to leverage up as we kind of move through these growth cycles here, et cetera, and live within our cash flow.

[Darlene Gates, executive]

Yes, Neil, I would just add on to what Ryan has said is the strategy has been tested through multiple price environments. And so that is the strength of the program that the team is bringing forward. It also has several optionalities and ability to pace or to make decisions if we get into an environment where we need to pace it or reduce the capital spend. The differentiator for MEG is we can make those decisions very quickly. The project team as they're evaluating and bringing it forward are developing those -- that optionality into the program. And that's part of what gives us the confidence to be able to navigate, what is an uncertain environment but be able to manage it as we go through it.

[Neil Mehta, analyst]

That's very helpful. And then we always appreciate your perspective on the big economic growth projects, the processing train, the skim tank and then the steam optionality. Talk about how construction is going with these economic growth projects and how we should be thinking about the timing of in-service as well?

[Darlene Gates, executive]

Thanks, Neil. This is one of my favorite questions right now because it is -- we are working very hard through this. So to give you an update on where we sit to FEED or front-end engineering and design on the facility expansion project is progressing as planned. It is looking at the third processing train and the steam expansion, as you mentioned. So we're looking at evaluating the best way that we can unlock the Christina Lake emulsion and steam capacity constraints that we have today. That project enables us to consider a 3% to 5% production CAGR with expectations that it delivers a top decile capital efficiency. And what that means to us is targeting a $20,000 to $25,000 per flowing barrel. That's really what the team is working very diligently.

And as you -- as that defines and gets more and more certain, we expect to bring that into the plan and the budget for 2025 and then as a business update, provide more of the details around that project. The construction on the skim tank that we've talked to you in the past about, that is underway. The tank walls are being put up a few weeks ago. So that has been progressing as expected. Team has been doing an exceptional job in that space. And we're progressing in conjunction with this project is also the turnarounds, right? They go hand in hand. It is looking at how you deliver the turnaround next year with also this project scope. So all of that is progressing extremely well. Expect that to be incorporated in with clarity in the plan and the budget. That will be released November 25 with a business update on the 26th.

[Operator]

Your next question comes from the line of Menno Hulshof of TD Securities.

[Menno Hulshof, analyst]

I'll start with a question on solvent SAGD since it's been a pretty newsy quarter with CNQ and Imperial talking about Kirby North and Grand Rapids. Where do things currently stand for MEG on solvent assisted? I did a quick search of the transcripts. And I think Derek talked about this last year, and I believe he suggested that eMVAPEX wasn't effectively competing for capital. Is that still the case? And what would you need to see to get eMVAPEX back into the queue?

[Darlene Gates, executive]

Thanks, Menno. Let me maybe reset this one just to bring it back because it is something that has been part of a very important part of MEG's journey. But to provide the update where we sit on this thinking is helpful, I think, with all the discussions around solvents, you'll recall that MEG piloted eMVAPEX between 2016 and 2021. So a lot of excellent work was done over that period to identify the strategic value of solvents for MEG's development plans back quite a few years ago. The objective of that pilot was to test steam-to-oil ratio reductions, bitumen and solvent recoveries and then the overall economic competitiveness of it, right? That's typically when you're looking at this, you do the pilots to understand it and then get the data from that to help inform your decisions as you move it forward. While the pilot was very successful, I think, on the technical aspects, it delivered what we needed to understand from that area.

The economics of the process were not superior to our existing depletion plans. And so that's really where, as we continue in our strategy and continuing to evaluate it, it's not that it's not successful, and it's not that it may never be part of MEG's development plan but today, it doesn't compete with the opportunities that we have.

[Menno Hulshof, analyst]

Okay. And maybe just to follow up on that. So it's unlikely to show up in the multiyear plan that you're probably putting out to the market at the end of November?

[Darlene Gates, executive]

That's correct.

[Menno Hulshof, analyst]

Okay. Perfect. And then I guess the follow-up is on apportionment on the Enbridge mainline for November. It's -- I believe it's in the 2% range, so very low. But I was a bit surprised to see that there is any apportionment. So I guess the question is, are you surprised? What is driving it? And is there anything that you're seeing that points to a potential further uptick in the coming months?

[Erik Alson, executive]

Thanks, Menno. It's Erik. No, we weren't surprised to see the apportionment. We do expect to see low levels of apportionment from time to time. It's really an outcome of a number of factors, including nominating behavior and pipeline maintenance. And so I wouldn't confuse this with the systemic apportionment that we've seen in the past. And what we're seeing now doesn't materially affect market access.

[Menno Hulshof, analyst]

Perfect. I'll turn it back.

[Operator]

Your next question comes from the line of Dennis Fong of CIBC Capital Markets.

[Dennis Fong, analyst]

I just have one as my other question was kind of asked by another analyst. And it's a little bit of a follow-on from what Menno was asking there. So as I think about your deployment of, we'll call it, noncondensable gas injection across your aggregate development and secondarily, with kind of your push into what you view as higher quality or high-quality resource towards the North and Northwest, can you talk towards a little bit about how you're managing SOR potentially lower as you continue this development and what that potentially means with respect to the expanded capacity or see capacity with these upcoming projects that you're talking about or that you will talk about on November 25 and 26.

[Darlene Gates, executive]

Sure, Menno (sic) [ Fong ]. I'm sure the question you wanted to ask was solvent. So we'll jump to your other question now since we got that one covered. As you look ahead for MEG, MEG's differentiator is its resource quality. The steam-to-oil ratio, as you know, for the last several years, we've been progressing a delineation program that gives us more certainty and derisk the resource as we move to the Southeast and Northwest. That informs your information on what the quality of the resource looks like.

And the oil saturation is expected to improve as we move to the Southeast and Northwest. Both parts of the resource look better, if not from a steam-to-oil ratio improving as we move out to that resource, primarily driven by your oil saturation in that. That's part of what gives us the confidence to move forward on a moderate growth plan and the ability to grow the production is both a steam-to-oil ratio improvement as well as the facility expansion projects that we're evaluating.

[Dennis Fong, analyst]

Great. Really appreciate the color and I'll turn it back.

[Operator]

[Operator Instructions]

There are no further questions at this time. I'd now like to turn the call back over to Darlene for final closing remarks. Please go ahead.

[Darlene Gates, executive]

Thank you, Kelvin, and thank you to everybody that joined us this morning for our Q3 results conference call. I'd like to remind you that we will release our budget on November 25 and we'll present a business update on November 26. An advisory will be issued shortly with that information. I hope everybody has a safe and great day today, and thank you again for calling in and joining us on this call.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines.