Prairiesky Royalty Ltd

TSX:PSK

Earnings Call Transcript 2019-Q3

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the PrairieSky Royalty announces their third quarter 2019 financial results conference call. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]I would now like to hand the conference over to your speaker today, Andrew Phillips, President and CEO. Please go ahead, sir.

[Andrew M. Phillips, President, CEO & Non]

Thank you, Ian. Good morning, and thanks for dialing in to the Q3 2019 PrairieSky Earnings Call. On the line from PrairieSky are Pam Kazeil, CFO; Cam Proctor, COO; and myself, Andrew Phillips.Before handing the call over to Pam to walk through the financials, I'll provide an operational update. Free cash flow for the quarter totaled $48.8 million. This was allocated to $45.5 million in dividends and $3.9 million was spent on adding approximately 85,000 Clearwater acres with drilling commitments. The total Clearwater land is over 840,000 acres. The Clearwater play has recently been independently recognized as the best payout play in North America.190 wells were spud in the third quarter, up from 112 in Q2, but down 21% from Q3 of '18 where PrairieSky has about 242 wells spud.Production declines resulted from low Q2 drilling activity and shut-ins of both oil and natural gas. This resulted in PPAs of 308 BOE per day versus 951 BOE per day in the prior quarter. We expect PPAs to return to more normalized levels over the next 2 quarters.Realized natural gas price for Q3 was $0.72. With AECO spot recently touching $2.50 per gigajoule, we expect some shut-in natural gas volumes to resume production and an increase in cash flow from this part of the portfolio.Leasing activity remained strong as 25 transactions were entered into with 19 counterparties. The Duvernay, Viking, Mannville and Saskatchewan Site D represented the majority of the leasing arrangements. Lease issuance bonus for the quarter totaled $4.4 million.Cash G&A per barrel was $2.49. We continue to expect a sub-$3 per barrel number for 2019. Long-term incentive payments for all 60 staff and executive totaled $2.2 million for fiscal 2019, down 57% from $5.1 million in 2018, which helps costs in a challenging commodity and activity environment.Compliance teams remain busy collecting $1.8 million for the quarter and bringing lands back into our inventory through active management of our contracts. These lands can now be reworked by our technical team and made available for leasing by our land negotiators. Lease assignments were up to 447 for the quarter, which is a leading indicator of assets working their way through bankruptcy processes as well as additional A&D activity by producers. The number of these assets -- a number of these assets have been shut in, but some will resume production in Q4 '19 and Q1 2020.We recently reviewed the 10-year cash flow outlook for PrairieSky in a $1.50 AECO and $55 WTI environment with the Board of Directors. The approximate after-tax after G&A cash flow is $2 billion over this period. This is 58% of our current market capitalization.I will now turn the call over to Pam to walk through the financial results.

[Pamela P. Kazeil, VP of Finance & CFO]

Thank you, Andrew. Good morning, everyone. PrairieSky generated funds from operations of $48.8 million or $0.21 per share basic and diluted in the quarter. Cash flow was generated primarily from royalty production revenue of $51.9 million on average production volumes of 20,512 BOE per day, which were 50% liquids.There were 190 wells spud in Q3, which included 185 oil wells and 5 natural gas wells. This is down from 242 wells spud in Q3 2018. The decrease in the number of wells spud is indicative of the slowdown in activity across Western Canada, with the Q3 rig count down approximately 35% year-over-year. The average royalty rate for spuds in Q3 was 8.1%, consistent with 8% in Q3 2018. Royalty revenues were predominantly from liquids production.Oil royalty production volumes were 8,011 barrels per day, down 8% from Q2. We saw declines in oil production from both the Saskatchewan and Alberta Viking due to reduced activity as well as declines on high-rate Cardium oil that came on late in 2018. The combined impact from the Viking and Cardium was approximately 200 barrels per day.Lower activity has also resulted in fewer oil prior period adjustments related to new wells on stream and due to timing, we also had fewer oil compliance recoveries. The impact of lower prior period adjustments was 262 barrels per day. The remaining decrease in production relates to natural declines outweighing new wells on stream in the quarter due to lower activity in the basin overall as a result of uncertain commodity pricing, Alberta production curtailments and the seasonal impacts of breakup in Q2.Lower average WTI pricing and wider heavy oil differentials also contributed to a decrease in oil royalty revenue, which totaled $43.4 million in the quarter, down from $52.1 million in Q2.NGL royalty production volumes of 2,334 barrels per day were down 13% from Q2 and generated an additional $4.4 million in revenue, down from $6.5 million in Q2. NGL volumes were impacted by slow activity for natural gas as well as operational downtime.Natural gas volumes totaled 61 million a day, down 6% from Q2, primarily due to limited natural gas activity and operational downtime. Natural gas royalty production added $4.1 million in revenue, which was down from Q2 royalty revenue of $4.5 million due to lower volumes and reduced AECO benchmark pricing.PrairieSky's production volumes in the quarter included 308 BOE per day of prior period adjustments, which were 13% liquids and included 179 BOE a day from compliance activities and an additional 129 BOE a day of other prior period adjustments related to new wells on stream and better well performance. The compliance group continues to recover missed and incorrect royalties through forensic accounting, collecting $1.8 million in the quarter, bringing year-to-date collections to $5.6 million.Other revenue totaled $6.9 million, including $1.2 million on lease rentals, $1.3 million in other revenue and $4.4 million in bonus consideration on entering into 25 leasing transactions with 19 different counterparties.Production and mineral taxes totaled $1.2 million and cash administrative expenses totaled $4.7 million or $2.49 per BOE. Cash administrative expense is expected to be below $3 per BOE in 2019. Current tax expense for the quarter totaled $2.6 million.During Q3, PrairieSky declared $45.5 million in dividends with a resulting payout ratio of 93% and repurchased and canceled approximately 200,000 common shares for $4.2 million. PrairieSky closed the quarter with a minor working capital deficiency of $7.4 million.Since IPO, PrairieSky has generated approximately $1.2 billion in funds from operations and returned $1.1 billion to shareholders through $987 million in dividends and the repurchase and cancellation of 5 million common shares.We will now turn it over to the moderator to proceed with the Q&A.

[Operator]

[Operator Instructions] Our first question comes from Aaron Bilkoski with TD Securities.

[Aaron Bilkoski, Equity Analyst]

You touched on this a little bit, Pam, but could you provide a little bit more color on how the PPAs themselves are derived? What contributed to the decline in liquids' PPAs this quarter? And why you're confident this will return to historical levels going forward?

[Pamela P. Kazeil, VP of Finance & CFO]

So PPAs really have 2 components. There's the component that's driven from compliance activities and as we've always said, those compliance PPAs can be lumpy. We don't record them until collection is certain. So even though there may be a lot of work being done, the timing of that really depends on when we settle those issues with the counterparty. So those were down in Q2, but we continue to work on compliance activities and continue to expect to recover unpaid royalties.From -- the other piece is really PPAs related to trending. And what happens with those trending PPAs is that we see wells come on production. We may record the initial production in the quarter, but we may see an increase in production when actuals come in. So as you know, Aaron, as a royalty producer, 2/3 of the quarter are actually based on accruals because we haven't seen actual cash payments come in. So trending PPAs are generally the result of improved production from new wells as well as new wells that we may not have known that came on stream.The second quarter was very slow in terms of activity. We didn't see a lot of wells come on production. We know that the third quarter was busier. We did see 190 wells rig release. So we expect to see higher trending PPAs than we saw in this quarter. The quantum of that, I don't want to speculate, but just given the level of activity, we would expect it to be higher than Q2.

[Operator]

[Operator Instructions] And I'm not showing any further questions at this time. I would now like to turn the call back over to Andrew Phillips for any further remarks.

[Andrew M. Phillips, President, CEO & Non]

Thank you all for dialing into the PrairieSky Q3 conference call, and please call either Pam or myself with any questions. We'll be around all day. Thanks.

[Operator]

Thank you, ladies and gentlemen. This concludes today's conference call. Thank you for participating. You may now disconnect.