Prairiesky Royalty Ltd

TSX:PSK

Earnings Call Transcript 2018-Q4

[Operator]

Good day, ladies and gentlemen, and welcome to the PrairieSky Royalty announces 2018 Fourth Quarter and Annual Financial Results Conference Call. [Operator Instructions] As a reminder, this conference call will be recorded. I would now like to introduce your host of this conference, President and Chief Executive Officer, Mr. Andrew Phillips. You may begin, sir.

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

Thank you, and good morning, everyone. Thank you for dialing into the PrairieSky Royalty Q4 and Year-End 2018 Conference Call. On the call from PrairieSky are Pam Kazeil, CFO; Cam Proctor, COO; and myself, Andrew Phillips. I'll provide an operational update for the company then turn the call over to Pam to walk through the financials. PrairieSky generated revenue in 2018 of $274 million and free cash flow of $230 million. Of that free cash flow, $182 million was paid in dividends, and $46 million was used to cancel 1.8 million shares. The Board of Directors have maintained the annual dividend at $0.78 per share per year. We anticipate finishing the current NCIB that expires in May and renewing it for the upcoming year. The amount of stock repurchase will depend on the free cash flow above the dividend while maintaining our debt-free capital structure. If high-quality acquisitions present themselves, we have the ability to execute on them with our bank line and pay it down with excess free cash flow. There are very few acquisitions that share the quality and duration of our existing asset base that has produced continuously for over 75 years.202 wells were spud in the fourth quarter, bringing the year's total to 810 wells. The gross capital associated with this drilling was $1.3 billion or approximately 4.5% of all upstream CapEx in Canada excluding oil sands. The Duvernay and Clearwater plays continued to advance. And a sizable new heavy oil accumulation in the Mannville was uncovered by 3 operators, which will add meaningfully to our undeveloped oil inventory. Duvernay net royalty oil production has increased from 80 barrels per day in Q4 of 2017 to over 200 barrels per day in Q4 of '18. The 24-well Montney development and Pipestone on our core lands has commenced drilling operations and should add new royalty production in the later half of the year. Compliance work added $1.5 million to the fourth quarter revenue. In addition, offset notices have been sent out across a number of plays and should result in new drills in 2019.Leasing continued its strong trend at 6.4 million worth of content from 35 different counterparties. Although leasing was focused on oil-directed opportunities across the diverse play set, the most important long-term organic growth of our business will come from leasing land to well-qualified, well-capitalized companies.Acquisitions in the fourth quarter totaled $13.7 million and included a producing royalty package in Southeast Saskatchewan with 45 barrels of royalty oil production and an undeveloped Clearwater land block with a 7-well multilateral commitment over the next year. In addition, we acquired a 3.4% royalty on over 1 trillion cubic feet of natural gas in the Horn River Basin. Expected development isn't for a decade on that property.Cash G&A expense for the quarter totaled $2.03 per barrel and $3.10 for the year. We expect to lower this number in 2019 and work towards a mid-$2 per barrel over the long term.Weak long-term natural gas prices in Canada have resulted in FIDs of a $45 billion LNG facility, numerous petrochemical plants, a propane export terminal and capital investments from major pipeline operators to increase takeaway capacity out of the basin. Basic economic principles dictated that this would ultimately happen. Over time, this should lower the differentials for natural gas to narrower levels and encourage new drilling activity in Canada. Oil producers facing Made in Canada discount pricing have found ways to increase efficiencies and lower costs. When recovery takes place, our producers will be amongst the most efficient in North America.We look forward to sharing our 2019 royalty playbook on May 23 in the morning at the Royal York Hotel in Toronto. In conjunction with this, PrairieSky will give free cash flow sensitivities over the next decade and better communicate not only the current cash flow stream but where the longer-dated cash flows will come from.I would like to thank our staff for their continued hard work. All of PrairieSky employees contribute a meaningful amount of every paycheck towards purchasing PrairieSky royalty shares. I would also like to thank our shareholders for their continued support. We will continue to work hard for you in the coming years. Finally, I'd like to thank our over 340 producers who work hard at finding new hydrocarbons, increasing recovery factor through water floods, [indiscernible] floods and better drilling techniques as well as tracking techniques on old pools and do all of this with a lower carbon footprint and a lower cost structure than in the past.I will now turn the call over to Pam to discuss the financial results and 2019 free cash flow sensitivities to FX, oil price, gas price and differentials.

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

Thank you, Andrew. Good morning, everyone. PrairieSky generated funds from operations of $48.5 million or $0.21 per share in the quarter. Cash flow was generated primarily from royalty production revenue of $42.4 million on average production volumes of 23,506 BOE per day. Oil NGL revenue represented 79% of total royalty revenue and approximately 50% of production volumes. Crude oil royalty revenues for the quarter of $28 million were down from Q3 2018 due to the impacts of lower WTI and wider light and heavy oil differentials. NGL revenue was $5.6 million and also impacted by water differentials. Natural gas revenue of $8.8 million was up from the third quarter due to higher AECO pricing. Annually, PrairieSky generated funds from operations of $229.7 million or $0.98 per share. Crude oil revenue of $184.7 million was flat year-over-year as significantly wider differentials for light and heavy crude oil offset the increase in WTI. NGL revenue of $31.2 million was up 7% year-over-year. And natural gas revenue of $32.1 million was down from 2017, primarily due to lower AECO pricing.Q4 2018 oil volumes were 9,163 barrels per day, which were up approximately 2% from the third quarter. Q4 oil sliding scale production volumes were down approximately 280 barrels per day due to lower crude oil pricing, and an additional 100 barrels a day of crude oil production was shut in. NGL volumes of 2,676 barrels a day were up 7% from Q3 2018 due to higher yields on a new well that came on production in the quarter. Natural gas volumes of 70 million a day were down from the third quarter as natural gas activity has been limited during the year, with only 7% of annual spuds being natural gas.PrairieSky's production volumes in the quarter included 1,365 BOE per day of prior period adjustments, which included 504 BOE a day of compliance activity, which were 15% liquids and an additional 961 BOE a day of other prior period adjustments related to new wells on stream and better well performance. These volumes were 59% liquids. The compliance script continues to recover missed and incorrect royalties through forensic accounting, collecting $1.5 million in the quarter. That brings year-to-date compliance collections to $9.2 million and collections since IPO to $50 million.There were 202 wells spud in the quarter, which included 179 oil wells and 23 natural gas wells. This brings annual spud to 810 wells, up from 735 wells in 2017. Annual spuds were 93% oil and 7% natural gas. PrairieSky's 2019 annual pricing sensitivities are as follows. A $5-per-barrel increase or decrease in U.S. dollar WTI results in a $14 million increase or decrease in funds from operations, and this is net of cash taxes and G&A. A $0.25 per Mcf increase or decrease in AECO results in a $4 million increase or decrease in funds from operations, again, net of cash taxes and G&A. And a 1% change in the FX rate will result in a $2 million change in funds from operations, net of cash taxes and G&A. And a $1 increase or decrease in the differentials for light and heavy oil results in a $3.5 million change in funds from operations, net of cash taxes and G&A.In Q4 2018, other revenue totaled $9.2 million, including $6.4 million in bonus consideration, which represented the strongest and most active quarter in 2018. PrairieSky entered into 41 leasing arrangements with 35 different counterparties in the period. For the year, other revenues totaled $25.8 million, which included lease rental income of $7.9 million and bonus consideration of $16.5 million. For the year, PrairieSky entered into 131 leasing arrangements with 83 different counterparties. In 2019, PrairieSky expects lease rental income of $8 million and is budgeting bonus consideration of $20 million and compliance revenue of $6 million. Production mineral taxes totaled $1.3 million, bringing total production in mineral taxes for 2018 to $5.1 million or 2.1% to product revenue. Cash administrative expenses totaled $4.4 million or $2.03 per BOE, and that brings cash administrative expenses to $26.4 million or $3.10 per BOE for 2018. Cash administrative expense is expected to be below $3 per BOE in 2019. Cash taxes for the year totaled $16 million, bringing the effective cash tax rate to 15.5% for the year. Acquisitions totaled $13.7 million in the quarter, adding royalty interest in both producing and nonproducing properties as well as seismic. For the year, acquisitions totaled $58.6 million. In 2018, PrairieSky paid $182 million in dividends with the resulting payout ratio of 79%. In addition, PrairieSky repurchased 1.8 million common shares for cash of $45.7 million under the NCIB, resulting in an all-out -- an all-in payout ratio of 99%. Since IPO, PrairieSky has generated approximately $1.1 billion in funds from operations and returned $963 million to shareholders through $850 million in dividends and a repurchase of 4.8 million common shares. We will now turn it over to the moderator to proceed with the Q&A.

[Operator]

[Operator Instructions] And our first question comes from Keegan Stoyles with TD Securities.

[Keegan Stoyles, Associate]

Just here for Aaron Bilkoski. Just wanted to ask you about how much of the $1.3 billion in CapEx was spent on your land in 2018 that was on Fee Lands versus GORRs.

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

Sure. So the fee simple lands are the less oil royalties, the lowers were $528 million. The GORRs were $550 million, and that excludes the units and oil sands. So units, which are mostly made up of less oil royalties, but just a small unit type interest was another $165 million. And then oil sands, which we separate out as well, is $46 million.

[Operator]

[Operator Instructions] And our next question comes from Shailender Randhawa with RBC Capital Markets.

[Shailender Randhawa, Analyst]

Two questions from me. So one, just a follow up on that CapEx question. If we look year-over-year, excluding thermal calculated about a $300 million delta in terms of CapEx, could you just give us a sense of which plays attracted more capital, less capital year-over-year? And then secondly, could you give us any parameters on this Mannville heavy oil play as well, Andrew?

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

Yes, so one of the places we've seen a continued growth trajectory, Shailender, is in the Duvernay play, and it was approximately $250 million of CapEx this year. We expect that, again, based on even some of the reduced budgets we have been given from operators, to increase, too, in the $300 million range for 2019. One of the other interesting things, the Viking is always a steady $350 million a year just given it's a very -- it's an extremely efficient light oil play. The one that we saw the biggest year-over-year bump on was the Cardium and likely went back to the Cardium light oil play this year, and we increased that by about 300% in terms of drilling. So those are a couple of places where we've seen an increase in activity. And then the second question -- could you repeat the second question, please?

[Shailender Randhawa, Analyst]

Mannville.

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

Mannville.

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

Oh, right, the Mannville oil pools, yes. So there is a new fairway near Leduc. And a number of different operators, 2 public and 1 private, have been exploring a couple of different channel systems within the Mannville in an area where it's slightly hotter reservoir temperatures, so the light oil -- or the heavier oil can flow. And there's been rates anywhere from 300 barrels per day to 500 barrels per day, 90-day IPs, so pretty impressive IP rates for wells that cost in the range of $2 million. So even though it is heavy oil and touching in the range of WCS pricing, we've seen continued licensing activity on the play. So it should open up a multiyear drilling inventory for our business over time as those plays are developed. So the backed wells are in 50 Range 1, West 5 if you want to take a look at them, Section 12, I believe.

[Shailender Randhawa, Analyst]

Okay. And in terms of your exposure in that area then, how would you frame that in terms of acreage?

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

Yes, so we've got -- we now have over 100,000 acres across the play. We've got checkerboard throughout the entire region in that kind of towards the region in 50 Range 1, and it's kind of East Canada as well, so if you're thinking about geographic area. But we've now leased about 30 sections of the land, and we expect further leasing this year.

[Operator]

[Operator Instructions] That concludes our Q&A portion of today's conference. I would now like to turn the conference back over to Mr. Phillips for any closing remarks.

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

Thank you for calling in to our year-end conference call. And as always, please feel free to call Pam or myself at [phone] with any question. Thank you.

[Operator]

Ladies and gentlemen, thank you for attending today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.