Prairiesky Royalty Ltd

TSX:PSK

Earnings Call Transcript 2019-Q4

[Operator]

Ladies and gentlemen, thank you for standing by. And welcome to the PrairieSky Royalty announces their annual and fourth 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 to your speaker today, Andrew Phillips, President and CEO. Please go ahead, sir.

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

Thank you, Jewel, and good morning, and thank you for dialing in to the PrairieSky year-end 2019 conference call. On the call from PrairieSky are Cam Proctor, COO; Pam Kazeil, CFO; and myself, Andrew Phillips. Before I turn the call over to Pam, I will give an operational update and a year-end review.We entered 2019 with 15.45 million royalty barrels in book reserves. We received over 3 million royalty barrels of production in 2019, which was the largest contributor to our $220 million free cash flow. We exited the year with 16.1 million royalty oil barrels booked in reserves as industry is setting up drilling to replace all produced oil and add 650,000 barrels of new oil reserves. This is a year in which PrairieSky did no production acquisitions, a good result. Natural gas reserves decreased by 11% after production, and NGL reserves grew by 8.5% net of all NGL royalty production. Funds from operations totaled $55.8 million, while the dividend was $45.4 million for an 81% payout ratio. Royalty production for the quarter totaled 22,203 royalty barrels, including 8,884 royalty oil barrels per day.Declines for 2020 are expected to be modestly lower than the 90% decline experienced on the base in 2019. Flattening oil declines are a result of more conventional lower decline drilling, waterflood activity throughout the portfolio and the stability of our thermal oil projects, which represents approximately 10% of our royalty oil production.Cash administration was $2.01 per barrel and $2.68 per barrel for the year, the lowest cost achieved since our IPO. Compliance recoveries for the quarter were $1.6 million. All departments at PrairieSky worked very hard for shareholders over the past year, so thank you to the dedicated staff at PrairieSky, all of whom are also shareholders of the business.Over the fourth quarter, a number of acquisitions were evaluated and bids submitted, but none were executed on. We did spend $3.2 million acquiring additional Montney, Clearwater and Mannville undeveloped lands with excellent prospectivity of stacked oil and gas opportunities. Sizable M&A has occurred or is pending on PrairieSky acreage, including the acquisition of the Lindbergh thermal oil project and the proposed acquisition of the Southern Alberta Bakken light oil field. These 2 assets total approximately 1,000 royalty oil barrels net to PrairieSky. In both cases, the acquirers are well-capitalized operators with growth plans on the assets. 33 lease arrangements with 31 different operators were entered into for a total consideration of $1.4 million in the quarter. A number of new oil plays were generated by our technical team throughout 2019. And in conjunction with our land negotiators, we will look for qualified operators to drill the prospects.Since our IPO, we have now returned 1/3 of our market cap to shareholders and expect to return another 2/3 over the next 10 years. These are unlevered returns. I would like to thank our shareholders for their support of this capital-light business, and we'll continue to work hard for you to generate strong returns in the future. 2019 was also an important year for advancing PrairieSky's ESG platform. This is a focus for investors and industry participants alike and has been a core part of PrairieSky's business model and strategy since inception. We continue to look for areas of improvement across the organization and opportunities to partner with companies that share our long-term commitment to sustainability. During 2019, we partnered with Enhance Energy, an Alberta private company who is pioneering CO2 enhanced oil recovery scheme at the Clive field and the Fenn-Big Valley field in Alberta. These projects will safely store CO2 delivered through the Alberta carbon trunk line that would otherwise be admitted into the atmosphere, while at the same time, revitalizing the pool and maximizing recovery factors.Enhance believes that no other crude oil produced in the world will have a lower net carbon impact on the environment than oil produced from the Clive field, making that project a truly low-carbon Canadian energy solution. This is just one example of the innovation being applied by our industry partners on PrairieSky lands.We also continue to showcase the differentiating factors in our business model. Our leading governance strategy and risk management process are recognized by several third-party rating agencies. In 2019, we received a B score from CDP and an AA score from MSCI, which is a reflection of PrairieSky's strength relative to other businesses and across industries. We continue to own 0 facilities, 0 wellbores and have no abandonment or end-of-life asset liabilities.We continue to examine ways to improve efficiencies in our business while reducing cost, consumption and our overall impact on the environment. Our corporate culture fosters performance, combined with diversity. And to our knowledge, PrairieSky has the highest percent of women, approximately 75% working in an energy company in Canada. This is in addition to strong female leadership at the Board executive and senior management level. 2020 will be another important year for PrairieSky as ESG continues to evolve and take route in more formalized measurements and disclosure requirements. PrairieSky's goal is to demonstrate leadership in this evolution and showcase the strength of its ESG attributes to existing investors, stakeholders and the broader investment community.I will now turn the call over to Pam to walk through the financials.

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

Thank you, Andrew. Good morning, everyone. PrairieSky delivered a strong Q4, generating funds from operations of $55.8 million or $0.24 per share. Our royalty production of 22,203 BOE per day represented an 8% increase over Q3 2019 production volumes and generated $63.4 million of royalty production revenue. Oil royalty production volumes were 8,884 barrels per day, up 11% from Q3 due to active third-party drilling on PrairieSky lands in the second half of the year.Prior period adjustments for oil totaled 618 barrels a day, comprised of 457 barrels a day of new wells on stream and be well performance and 161 barrels a day from compliance recoveries. Oil royalty revenue totaled $46.9 million, up 8% from Q3 2019 as higher royalty production was partially offset by wider Canadian light and heavy oil differentials. Natural gas volumes totaled 53 million a day, up 3% from Q3 primarily due to the addition of Montney wells in the Pipestone area. Natural gas volumes included 2.2 million a day in prior period adjustments, including 1.6 million a day of compliance volumes.Natural gas revenue of $9.8 million was more than double Q3 2019 natural gas revenue of $4.1 million as a result of the significant increase in AECO benchmark natural gas pricing in the quarter. NGL royalty production volumes totaled 2,819 barrels a day, up 21% from Q3, and generated $6.7 million in revenue. It was a strong quarter for NGLs as we received new royalty volumes from our Pipestone Montney wells, which increased our NGL netback to $25.92 per barrel.NGL volumes included 224 barrels a day of prior period volumes with 179 barrels a day related to new wells on stream. Annually, PrairieSky's funds from operations totaled $220.4 million or $0.94 per share, generated primarily from oil royalty revenue of $188.7 million, natural gas royalty revenue of $26.7 million and NGL royalty revenue of $29.5 million. There were 150 wells spud in Q4 comprised of 148 oil wells and 2 natural gas wells. This brings total wells for 2019 spud on PrairieSky lands to 661 as compared to 810 in 2018. The average royalty rate for spuds in Q4 was 6% and 7.1% for the year. Gross capital spending in PrairieSky lands totaled $1.1 billion and $58 million net.Looking forward, PrairieSky's 2020 annual pricing sensitivities are as follows: a $5 per barrel increase or decrease in U.S. dollar WTI will result in a $13 million increase or decrease in funds from operations, and this is net of cash taxes and G&A.; a $0.25 per Mcf move in AECO, up or down, will result in a $4 million increase or decrease in funds from operations. Again, this is net of taxes and G&A; and a $0.01 change in the U.S. dollar to Canada FX rate will result in a $2 million change in funds from operations, net of cash taxes and G&A; and a $1 per barrel 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.Other revenue in Q4 totaled $3.7 million, including $2.2 million of lease rental, $0.1 million in other revenue and $1.4 million in bonus consideration on entering into 33 leasing transactions with 31 different counterparties. For 2019, other revenue totaled $23.5 million, made up of $7.2 million in lease rentals, $4.2 million of other revenue and $12.1 million in bonus consideration on entering 127 leasing transactions with 80 different counterparties.PrairieSky collected $1.6 million in compliance revenue in Q4, bringing the total collected to $7.2 million for the year. These amounts are included in royalty revenue. PrairieSky anticipates other revenue in the range of $25 million in 2020, including lease rentals, bonus consideration, other revenue and compliance recovery.Production and mineral taxes totaled $1.3 million or $0.64 per BOE for Q4, bringing annual production and mineral taxes to $4.6 million or $0.58 per BOE. Cash administrative expenses for the quarter totaled $4.1 million and $21.3 million or $2.68 per BOE for the year, our lowest cash G&A per BOE since IPO. Cash administrative expense is expected to be below $3 per BOE again in 2020. Current tax expense for the quarter totaled $5.5 million, bringing annual cash taxes to $19.4 million for the year. At year-end, PrairieSky had approximately $1.3 billion in tax pool available to shelter future income. In 2020, this will provide tax shelter of approximately $130 million.During Q4, PrairieSky declared $45.4 million in dividends with a resulting payout ratio of 81% and repurchased and canceled 0.2 million common shares for $2.8 million. For the year, PrairieSky declared dividends of $182.1 million, with a resulting payout ratio of 83% and repurchased and canceled 1.1 million common shares for $19 million.PrairieSky's balance sheet remained strong as we closed the year with a minor working capital deficiency of $3.1 million and no long-term debt. Since IPO, PrairieSky has generated approximately $1.3 billion in funds from operations and returned over $1 billion in dividends and repurchased and canceled 5.2 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 Matt Murphy with Tudor, Pickering, Holt & Co.

[Jenna Weir]

It's Jenna Weir on for Matt Murphy. The Viking looks to have continued to drive oil performance on your lands this quarter. Going forward, do you view this asset as more of a driver of growth in the near term or a hold flat and harvest free cash flow-type of asset? And as we look around the basin at the Cardium and the Mannville, for example, how are you thinking about activity here and the base business being able to hold flat?

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

You bet. Yes, it's a good question, Jenna. And to talk about the Viking specifically, it's a very important asset for us. It's currently roughly 3,000 net royalty oil barrels net to PrairieSky. It's getting drilled at a pace of about 350 to 400 wells per year, which gives us over a 16-year inventory to hold production flat. So it really is just a matter of how much capital is allocated towards those assets. What we've seen is a modest decline on the Saskatchewan site over the last year in terms of total royalty oil production, and then growth on the Alberta site as that has become a lot more active.The Alberta site is unique because almost all the growth on the Alberta site has been in conjunction with waterfloods. So they are effectively drilling 1-mile laterals, and then right beside them, drilling 1-mile water injectors. So that's actually helped the sustainability of the Viking and lowered the base decline of it as more Alberta wells get drilled.So we're comfortable that -- with what we've seen from budgets -- capital budgets from our operators in the Viking, they should keep production roughly in the 3,000 barrel range. It will have its typical Q3 decline and Q4 ramp-up, but that asset remains roughly flat. And then again, if you have higher oil price, you could probably see that asset growing again.And then your question -- your second question was Cardium and Mannville. And we expect, in 2020, the Cardium and Mannville drilling to be roughly equivalent. If you include the thermal oil sands, which is also Mannville-aged sands in Lindbergh in Onion Lake, it will actually show some growth this year. And then the balance of the portfolio, one of the things we've seen is some of our bigger pools that have been in decline on the conventional side are now seeing new operators and likely a little more activity. So again, we don't give guidance, but there was -- should be roughly enough capital spend to keep a lot of those assets flat, and we'll see on the new assets that are being drilled, like the Clearwater, which is growing at the fast pace in our portfolio.

[Operator]

[Operator Instructions] Our next question comes from Mike Dunn with Stifel FirstEnergy.

[Michael Paul Dunn, Director of Institutional Research]

Just wondering maybe, Pam, if you could -- I think you mentioned $25 million in other revenues guidance for 2020. What would that number be, excluding compliance revenue?

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

Yes. So for 2020, we expect lease rentals to remain flattish and around $7.5 million. Other revenue generates generally around $1.5 million. And bonus consideration, we expect that to be in the range of about $12 million. So the compliance revenue piece would make up about $3 million to $5 million.

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

And usually, we're -- and usually, Mike, we'll be ahead on that. And compliance is a really difficult one to forecast. But we, almost every year, kind of end up north of $7 million. So hopefully that -- hopefully, it does end up there, but that's the guidance we're providing for the other revenues.

[Operator]

Our next question comes from Jamie Kubik with CIBC.

[James Kubik, Research Analyst]

Can you talk about how you're thinking about the NCIB over the coming year with where prices currently sit? And would you look to use the balance sheet at all to advance repurchases?

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

That's a good question. And one of the things is that we have that flexibility with the excess free cash flow on top of the $182 million dividend. And we've consistently bought stock every day, modest amount of stock every single day and have that same program for the last few years. And the way we kind of view the NCIB is we'll effectively utilize it to cancel shares, the excess free cash flow, but upon finding good opportunities to make acquisitions that will add long-term value for shareholders, we'd prefer to do that if they are available. But if they don't compete with our portfolio, we'll continue to buy back stock. And in terms of answering your question for utilizing leverage for the NCIB, again, we've never used leverage as a long-term part of our capital structure. So it's unlikely that we would do a substantial issuer bid or utilize a bunch of leverage to buy back stock.

[Operator]

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 closing remarks.

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

Thank you, everyone, for dialing in to the PrairieSky Q4 conference call. And as always, please call either Pam or myself if you have any follow-up questions.

[Operator]

Ladies and gentlemen, this concludes today's conference call. Thank you for participating, you may now disconnect.