Prairiesky Royalty Ltd

TSX:PSK

Earnings Call Analysis

PrairieSky Royalty's Q3 2024 Shows Strong Oil Growth and Positive Outlook

In Q3 2024, PrairieSky Royalty experienced organic oil volume growth of 5% year-over-year, leading to a total average production of 24,422 BOE per day. The Clearwater and Mannville plays contribute significantly, with the Clearwater producing over 2,000 BPD and up 19% from last year. Net royalty production from Duvernay surged by 76%, highlighting robust growth potential. Financially, PrairieSky reported $111.5 million in royalty revenue with a payout ratio of 65% due to a $0.25 per share dividend. The company anticipates continued growth in oil production, especially in the Duvernay, projected to reach 4,000-6,000 net barrels daily by 2025.

Strong Oil Volume Growth

PrairieSky Royalty Ltd reported an impressive organic oil volume growth of 5% in Q3 2024 compared to the same quarter last year, showcasing a consistent performance with 6% growth year-to-date. This growth is attributed to robust licensing activity and significant well development on their acreage, pointing towards a favorable economic environment for oil production.

Diverse Leasing Activity

The company successfully signed 54 new leases across various regions including Manitoba and Saskatchewan, indicating strong leasing activity. This diversified approach highlights PrairieSky's strategy to optimize land usage, leveraging high demand in different oil plays.

Cutting-Edge Recovery Techniques

PrairieSky is increasingly applying advanced recovery methods like waterflooding, which has positively impacted production efficiency. Particularly, waterflood activity not only mitigates production decline but enhances recovery factors in the Clearwater play, ensuring a steady increase in production capacity.

High Productivity from Multilateral Wells

During Q3 2024, approximately 38% of drilling activity on PrairieSky land involved multilaterals, up from 33% a year prior. These wells have demonstrated higher productivity, significantly contributing to the overall production increase, with Clearwater's oil production exceeding 2,000 barrels per day, reflecting a 19% increase year-over-year.

Financial Performance Snapshot

The company's financial metrics robustly reflect its operational strength. Q3 revenues from oil royalties reached $111.5 million, boosted by a strong oil price environment where oil comprised 90% of total royalty revenue. Despite a slight decline in funds from operations to $92.4 million or $0.39 per share, PrairieSky remains committed to shareholder returns, declaring a dividend of $59.7 million or $0.25 per share.

Debt Management and Financial Health

With net debt standing at $149.6 million—down 33% from year-end—PrairieSky is showcasing strong financial discipline and risk management. The reduced debt levels enhance its financial stability and flexibility, allowing for potential growth investments.

Forward Guidance and Growth Potential

Looking ahead, PrairieSky anticipates a continuation of strong drilling activities into 2025. The CEO indicated that the Duvernay play, currently producing 700 barrels of oil equivalent (BOE) per day, has significant growth potential, with expectations to reach between 4,000 and 6,000 BOE per day over the next decade. The Clearwater and Mannville plays are also projected to stabilize at higher production volumes, adding to overall corporate growth.

Natural Gas Outlook

Although natural gas volumes have faced challenges, accounting for only 2% of total volumes in Q3, PrairieSky's extensive resource base suggests potential for future growth linked to LNG exports. The company's strategic positioning indicates that with improved pricing and market conditions, natural gas could become a more significant contributor to cash flows, particularly as prices normalize.

Conclusion

PrairieSky Royalty Ltd appears well-positioned for sustainable growth driven by strong oil production increases, innovative recovery techniques, and a strategic focus on diverse leasing and operational efficiency. While facing challenges in the natural gas segment, the overarching positive trajectory, highlighted by robust financial metrics and a healthy balance sheet, presents an attractive investment opportunity.

Earnings Call Transcript 2024-Q3

[Operator]

Ladies and gentlemen, thank you for standing by. Welcome to PrairieSky Royalty Ltd Third Quarter 2024 Financial Results.

[Operator Instructions]

Please be advised that today's conference is being recorded. I would like now to turn the conference over to Andrew Phillips, President and Chief Executive Chief Executive Officer. Please go ahead.

[Andrew Phillips, executive]

Thank you, Michelle, and good morning, everyone, and thank you for dialing into the Q3 2024 PrairieSky Earnings Call. On the call from PSK are Pam Kazell, CFO; Dan Bertram, Chief Commercial Officer; and Michael Murphy, VP Capital Markets as well as myself. Before we begin, there are certain forward-looking information in my commentary today, so I'd ask investors to review the forward-looking statements qualified in our press release and MD&A.

The third quarter was a very busy one for the team of PrairieSky. Our oil volumes grew organically by 5% over Q3 2023. Year-to-date, 6% organic oil growth has been achieved. Strong licensing and 247 well spots on PSK acreage are representative of the strong economics operators are seeing on our acreage in the current commodity environment. The strong spud levels this quarter should continue our momentum in oil growth over the upcoming quarters. 2025 activity levels should also be similar to this year, absent any major changes in pricing. New leasing activity remains robust with 54 new leases signed over the quarter with 41 different counterparties. Leasing was active across most major oil plays in the quarter. The compliance to our move was active, bringing back land to the company and collecting $2.2 million in revenue. Waterflood activity across the Clearwater has continued to show positive response, lowering our declines and ultimately increasing recovery factors in this play. Continued refinement of both drilling techniques as well as fluid systems has not only improved economics and recovery factors, but also opened up potential on a number of new zones within the Mannville stack that were previously uneconomic. I'll now pass the call over to Mike for further comments.

[Michael Murphy, executive]

Yes. Thanks, Andrew. Well spuds were up quarter-over-quarter coming out of spring breakup in Q2. We continue to see growth augmented by a growing proportion of higher productivity multilateral wells. In the quarter, multilaterals accounted for approximately 38% of drilling activity on PrairieSky lands, which is up from 33% in the third quarter of 2023. Year-to-date, multilaterals have accounted for 35% of total spuds, which compares to 28% over the same period last year. Clearwater activity remained strong with estimated oil production from the play greater than 2,000 barrels per day in Q3 '24 and year-to-date volumes up 19% year-over-year. The Mannville stack in the Cold Lake region remained very active with 20 multilaterals drilled in the quarter, which is up from 12 drilled Q3 '23.

And finally, in the Duvernay, recent oil wells brought on in the Pembina area have increased Q3 royalty production to over 700 BOEs per day from the Duvernay, which represents 76% growth year-over-year. We look forward to active upcoming capital programs in the West Shale Duvernay from our counterparties, which we expect to drive light oil growth in 2025 and beyond. With that, I'll pass the call over to Pam to discuss the financials.

[Pamela Kazeil, executive]

Thank you, Mike. Good morning, everyone. PrairieSky's total production volumes averaged 24,422 BOE per day in the quarter with oil royalty volumes of 12,733 barrels per day, up 5% over Q3 2023 and up 6% year-to-date. As Mike mentioned, we continue to see growth in the Clearwater and Mannville stack plays, and these two plays now represent over 20% of our oil production. We did see a decline in natural gas and NGL volumes in the quarter in response to weak natural gas pricing. We estimate approximately 2 million a day of natural gas and 80 barrels per day of NGLs have been shut in.

The price of these volumes come back on is yet to be determined. This quarter, oil generated 90% of our royalty revenue due to the combination of strong volumes and price. Royalty production revenue totaled $111.5 million in Q3 with other revenues generating an incremental $5.8 million. These bonus consideration totaled $4.1 million, bringing year-to-date bonus consideration to $15 million, which was our annual budget. So we're very pleased with the level of activity year-to-date. Funds from operations totaled $92.4 million or $0.39 per share in the quarter, slightly below Q3 2023. PrairieSky declared a dividend of $59.7 million or $0.25 per share in the quarter with the resulting payout ratio of 65%. At September 30, PrairieSky's net debt totaled $149.6 million, a decrease of 33% from year-end. We'll now turn it over to the moderator to proceed with the Q&A.

[Operator]

[Operator Instructions]

And our first question comes from Patrick O'Rourke with ATB Capital Markets.

[Patrick O'Rourke, analyst]

I guess just to start off, with respect to the leasing activity in the quarter, can you speak to any trends? Or is there anything potentially you're seeing different underneath the hood with the leasing activity this quarter?

[Andrew Phillips, executive]

Yes. Thanks for the first question there, Patrick. The leasing was pretty broadly spread all the way. We actually did some leasing in Manitoba for light oil, but also Duvernay lease in the East Shale Basin as well as a variety of Mannville leases across Alberta and some in Saskatchewan. In particular, in Saskatchewan, there's some new ideas getting tested there. So again, in the kind of heavy oil Mannville region. So is pretty broadly spread to answer your question on the leasing.

[Patrick O'Rourke, analyst]

And then just with respect to volumes that are under secondary recovery, water flood, et cetera, if you could provide a little bit of an update on the trends there?

[Andrew Phillips, executive]

Yes. I think over 25% of our Clearwater oil is under secondary recovery. It's probably actually a higher number than that now, but we just -- we get a trailing update from the operator there. I think an increasing number of those barrels will be under water or polymer flood by the end of next year. And I think just the great results we've seen on the 9 different patterns that they've tested and piloted -- they've shown great results. And so I think we'll continue to see that play expand on the waterflood side.

I think it's a really important piece for us just given the amount of production it represents in our corporate volumes and the low declines associated with it. So that's a big positive for us. And I think over the during our Investor Day in May, we're going to do a big rollout of our water and polymer floods and why they're important for the business.

[Operator]

And the next question comes from Adam Schwartz with Black Bayer Value Partners.

[Adam Schwartz, analyst]

I had a couple, so I'll try and keep them somewhat brief. So I was wondering if you can comment on medium to long term, so more than a few years from now. What your expectations are for natural gas volumes and pricing as the U.S. LNG and Canadian takeaway improves? And how much you incorporate that into your projected cash flows. And also, how you think about looking out a few years, 3-, 5-plus years away, what contribution when you think about like your cash flows how much could be coming potentially from natural gas versus where it is today?

[Andrew Phillips, executive]

Yes. No, thanks for that question, Adam. And I know natural gas represented only 2% of our volumes here this quarter, but we have a massive natural gas resource base. We've actually expanded it in the Montney. We have a very, very significant natural gas resource base in the Duvernay as well in the West Shale. And again, a lot of conventional natural gas assets across Western Canada, [ TCF ] at it. So we don't know exactly when pricing will improve.

But in terms of the trajectory of the volumes, what we saw in 2022 when we had a good price signal, we saw a pretty good supply response. We had 5% year-over-year growth in our natural gas volumes. So I think in a more normalized price environment, we could get kind of low to mid-single-digit growth in our natural gas volumes. But again, that would require us to know exactly what pricing is going to be. But in this environment, obviously, you're going to see some shut-ins, which we have. as well as less active natural gas drilling. Right now, 1/3 of our natural gas volumes are actually associated gas. So they're more driven by the economics of the oil and so that 1/3 of our asset base likely grows over the next year just because it's mostly driven by the oil economics.

So hopefully, that helps answer your question. Again, it's -- the nice thing about having free mineral title is it lasts forever, you own it. And so again, whenever that pricing all occurs, we'll capture the value of that, and it will be someday, a significant part of our cash flows.

[Adam Schwartz, analyst]

And do you think that -- like is there a house view? I know predictions -- I'm not asking for prediction more sort of your kind of overall inkling as to -- do you think that Canadian natural gas will eventually converge with U.S.? And then kind of overall, do you think North American natural gas will converge with rest of world just as the takeaway capacity getting kind of off component improves? Like how do you think about that with your existing assets? And then do you incorporate any of those houses when you're looking at potential acquisitions?

[Andrew Phillips, executive]

Yes. And I think it's a good question. And of course, I don't have the perfect answer to it. But I do think over time, when you see these differentials in pricing, people take advantage of it, and that's one of the reasons why LNG is being built out in Canada. You have petrochemical plants being built out. We're now exporting a lot of propane. And again, I think over time, people will find ways to take advantage of these low prices in both North America and Canada at the end of the pipe. So I do think those will converge over longer periods of time.

Don't know the exact timing of it. And the fortunate thing with owning a long-duration asset is you don't have to be right on time and you just have to own it. So we do continue to actually add resource on the natural gas side when we can buy good optionality that has long duration, and we'll continue to do that over time. And we will capture that value when things improve. But I don't know the exact time.

[Adam Schwartz, analyst]

Yes. No. I mean I appreciate the answer. So it's fair to say when someone is asking about the company to say, a lot of natural gas is incorporated right now in the cash flows, but you have a kind of infinite exploration call option improved economics.

[Andrew Phillips, executive]

Precisely. Yes, it's call options that don't expire and we do love our natural gas reserve base and the Canadian operators are -- have become extremely efficient at exploiting the resource. So we are excited when we start to see pricing improve that we can see some growth in our opportunity set. I think one of the things I've said if gas was equivalent to oil over the last 10 years, we would be a 70% natural gas company. We'd have the same oil volumes, but we could be 70% natural gas. So just to give an idea of the actual resource we own, again, that would require better pricing, but we'll see in time when that happens. Thanks for your question.

[Operator]

And our next question comes from Aaron Bilkoski with TD Cowen.

[Aaron Bilkoski, analyst]

So I'm curious about your Duvernay position. I was hoping you'd be able to talk a little bit about what we might expect over the next 1 to 5 years in terms of cadence of wells being drilled? Are there any capital commitments on the lands or drilling commitments on the lands. What should we be expecting for either IP rates or IP 365 rates? What percentage of that is going to be oil? Can you talk a little bit more about the play and our expectations from it?

[Andrew Phillips, executive]

Yes, you bet. Thanks for the question, Aaron. It's interesting. We actually expect some pretty meaningful growth over the next 1 to 5 years. I think for a 10-year period that Tuvernay should be somewhere between 4,000 and 6,000 net royalty barrels from 700 today. So it should be one of our largest individual producing areas. One of the important things about that play is 40-degree API crude -- so it really helps us double the netback of a heavy barrel.

So it's -- it will be very important for the netbacks for the company. It also comes with a lot of associated gas. So we'll receive the NGL portion of that as well. Again, the IP 365 time will tell and -- because it is a -- we have a huge land position, over 800,000 acres, including the East Shale and it's spread over a large geographic area. What we're seeing today is the more recent IP 90s are in the kind of 1,500 plus barrel a day range. And it really depends where they're drilled. The further west there, obviously, they get gassier, and you get up to a couple of million a day of natural gas and 500, 600 barrels a day of oil as you move east into the more volatile oil window. You start to see closer to 800 to 1,000 barrels a day and less than 1 million a day of gas.

So it depends exactly where they're drilled. But in the fullness of time, I think just given the ability to get the gas out. There's good egress opportunities with the big care [ Rimbey ] plant sitting right in the middle there. We do expect pretty good growth there, certainly with the better well results we're seeing. And again, I think as Mike pointed out on the call earlier, we saw 70% growth this year from 1 single well pad. So it just shows the gearing you have to these high rate wells with the higher royalties.

[Aaron Bilkoski, analyst]

And maybe you touched on it -- you didn't, but are there capital commitments to your counterparties on this land or no?

[Andrew Phillips, executive]

No. The way we structured it is. So we've layered the bonuses in over an 8-year period. And in order to continue the lands, minimum amount of capital has to be spent. So in effect, they don't -- they're not forced to spend the capital, but to the extent that they want to retain the land, they have to spend a minimum amount. So in the different agreements we have throughout the play. So again, the one nice thing about mineral title is you do have an expiry on it. So in order to maintain that asset, you do have to have some sort of continuous drilling. And I think what we saw is our very first leases with Encana, and it seemed like a long time, but as it got closer to the end.

We ended up getting all those lands back and then we get a whole bunch of new lease issuance bonus, and we can choose more qualified operators to execute on the play. So they are, in effect, capital commitments and if they're not executed on, we get those lands back. And that's one of the reasons why in other plays, we've gone to shorter-term leasing just because there's a lot of demand for oil leasing right now. So if you have a year or two to get your well drilled, we're able to take those lands back in a reasonable amount of time.

[Operator]

And the next question comes from Jeremy McCrea with BMO.

[Jeremy McCrea, analyst]

Andrew, just a quick question. When you look at your go forward here for the next few years, what would be like the top 1, 2, 3 growth areas? Like you talked about the Duvernay growing quite rapidly -- will be the kind of the next ones here. And then is there any surprise new well results on your land that you're seeing saying this could actually be pretty big as well, too, but it's not on the radar quite yet, but it could be quite, you're like meaningful here in a couple of years?

[Andrew Phillips, executive]

Yes. So the top 3 growth rate is for sure on the liquid side. The Duvernay is one we touched on already on this call. What's unique for that is coming from a very small low level of production. It was about 400 barrels a day a few quarters ago, it's now 700 but it does have the potential to be in the thousands in the next 3-, 5-, 10-year period. The Clearwater is just around 2,000 net royalty barrels, and that's on a trajectory down to $50 oil to still grow to well over 3,000 barrels a day and then be stabilized there.

And then the Mannville stack, obviously, I think that that's an area of the basin that once produce 350,000 barrels. It's down to 150,000 we think it has the easy ability to get back there, and we're the largest landowner in that play. So that's one that will be in the multi-thousand barrels a day of net royalty production. A couple of areas where we've seen some neat well results are kind of Southern Alberta, people taking kind of more modern self-fracs to the tighter Mannville sands like the basal courts and seeing some really good results. We've had some pretty good well results also in the Montney that we've seen that could expand that for us.

And I think the longer dated one is we've done a ton of leasing to Cenovus and his predecessor, Husky and some other operators that are smaller for small-scale SAGD in Saskatchewan. So again, if one or two of those projects are built over time, we think that could provide some more long-duration oil growth for the company.

So when you kind of walk through all the different areas that are growing and then still we're busy every single day. Almost every day, we're entering into a new lease. It's really hard to find things that we can buy that make our business better that growth at rates. So again, most other peers in our world have to buy assets at all parts of the cycle to maintain their growth. And we can just lease the land. But those are the top 3, the Duvernay, the Clearwater and the Mannville for sure, that are kind of more near term, and we're seeing them real time. Thanks for the question.

[Operator]

I am showing no further questions at this time. I would like to hand the call back over to Andrew for closing remarks.

[Andrew Phillips, executive]

Well, thank you, everyone, for joining our call today. And if you have any further questions, please feel free to reach out to any of us during the day. Thank you.

[Operator]

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