Tourmaline Oil Corp

TSX:TOU

Earnings Call Transcript 2022-Q1

[Operator]

Good morning, ladies and gentlemen, and welcome to the Tourmaline Q1 2022 Results Conference Call. [Operator Instructions] This call is being recorded on Thursday, May 5, 2022. I would now like to turn the conference over to Mr. Scott Kirker. Please go ahead.

[W. Kirker, executive]

Thank you, operator, and welcome, everyone, to our discussion of Tourmaline's results for the 3 months ended March 31, 2022 and 2021. My name is Scott Kirker. I'm the Chief Legal Officer for Tourmaline. Before we get started, I refer you to the advisories on forward-looking statements contained in the news release as well as the advisories contained in the Tourmaline Annual Information Form and our MD&A that's available on SEDAR and on our website. I also draw your attention to the material factors and assumptions in those advisories.

I'm here with Mike Rose, Tourmaline's President and Chief Executive Officer; Brian Robinson, Vice President, Finance and Chief Financial Officer; and Jamie Heard, our Manager of Capital Markets. We will start by speaking to some of the highlights of the last quarter and our year so far. And after Mike's remarks, we will be open for questions. Go ahead, Mike.

[Michael Rose, executive]

Thanks, Scott, and thanks, everybody, for dialing in. We're pleased to review our Q1 '22 results. Firstly, a few of the highlights: record quarterly cash flow of $1.076 billion and record quarterly free cash flow of $618 million or $1.82 per diluted share. That enabled us to declare a special dividend of $1.50 per common share, and that will be paid May 19 of this year. And our trailing 12 months of distributed dividends now totaled $4.21 per share, inclusive of this special dividend, and that's an implied 7% trailing yield at this point.

Our full year '22 free cash flow forecast has increased to $3.9 billion, which will allow us to pay quarterly special dividends through the balance of '22. Our Gulf Coast Cheniere LNG arrangement on 140 million per day begins Jan 1, 2023. And for reference, as of April 21, the JKM strip price was over USD 25 per MMBtu. And at March 31, '22, net debt was $769 million or 0.15x '22 full year forecast for debt to cash flow, and that's well below the low end of the target range. Briefly on production. First quarter production of a little over 507,000 BOEs per day, was within our guidance range of 500,000 to 510,000 BOEs per day and above full year average guidance of 500,000 BOEs per day. We exited the first quarter at average production level of between 515,000 and 520,000 BOEs per day, ahead of expectation, and that was driven by higher activity levels during Q1 and strong well performance across all 3 operated complexes.

So far, our record daily production rate achieved is a little over 526,000 BOEs per day, which is actually ahead of the current '23 average production guidance we provided of 515,000 BOEs per day. And we expect Q2 average production of between 500,000 and 505,000, because we'll reinject into storage in Dawn and in California. We have some of our own facility turnarounds and there's also a third-party pipeline maintenance that typically happens in Q2. Looking at our financial results. As mentioned, first quarter cash flow was a record $1.08 billion. Our full year '22 cash flow is now $5.22 billion. That's $15.34 per diluted share, and it's actually up 29% from our previous forecast back in March. Full year free cash flow of $3.92 billion, and that's $11.53 per diluted share.

As mentioned, we achieved a long-term net debt target actually in Q4 of 2021, and we have committed to return the majority of free cash flow to shareholders through these base dividend increases, special dividends and share buybacks. A component of free cash flow will also be used for asset acquisition opportunities within our 3 operating complexes and select margin-improving infrastructure investments.

Given that record free cash flow outlook for the year, we are pleased to announce quarterly special dividends for the remaining 3 quarters of 2022. The magnitude of the special dividends in the third and fourth quarters will be a function of commodity prices and resultant available free cash flow. And also note that additional sustainable base dividend increases are planned for 2022.

Touching on capital spending and the financial outlook. First quarter '22 EP capital spending was $442 million. Total CapEx in the quarter, including acquisitions, was $479 million. And note that acquisitions of property and land are funded by annual free cash flow and are actually not included in the base EP budget that we put in the 5-year plan.

We operated a larger proportion of the drilling rig fleet and completion spreads through March, compared to previous years. And that was in part because of continued strong commodity prices and also access was really good. So this will allow for stronger Q2 production volumes than what you would see in our typical annual production profile. And that incremental March activity added approximately $20 million to Q1.

Full year '22 EP capital spending has been increased to $1.225 billion. So that's up from $1.125 billion. The increase includes an incremental $75 million provision for inflation, and that equates to 6.7% full year cost inflation on top of other provisions that we had in the budget already. And also $25 million allocated to following up the multiple successful new zone/new pool exploration discoveries we've made, and we're quite excited by that.

First quarter '22 exit net debt, as mentioned, was $769 million, well below the long-term bottom end of the net debt target range of $1 billion.

Briefly on marketing. We have 625 million per day accessing U.S. markets through long-term firm transport agreements and this volume will grow to 905 million per day by exit 2023. And importantly, of course, our 140 million per day Gulf Coast LNG deal commences Jan 1, '23 or 8 months from now.

Approximately 60% of the current lower price hedges that we assumed through the acquisition -- acquisitions, sorry, of Jupiter, Modern and Black Swan will systematically roll off. And these production volumes will benefit from the much higher current strip pricing for winter '22, '23.

And notably, realized NGL prices averaged $44.82 per barrel in Q2 -- or sorry, Q1 of '22, and that's up 63% year-over-year, and we do expect further strengthening of realized NGL prices through the balance of the year. And recall that Tourmaline is the largest NGL producer in Canada.

On EP, 84.7 new net wells were brought on production during the first quarter of '22 and we anticipate a further 44 wells coming on stream during the second quarter, and that in part is related to the increased activity in March of this year.

We did achieve new record horizontal well lengths with associated record low drilling times in all 3 EP complexes. A couple of the pacesetters include Progress, Lower Charlie Lake horizontal, 3,509 meters long that we drilled from surface to TD with the assembly in the ground in 11.7 days and in the Greater Aitken area, we drilled just over 2,000 meters Montney horizontal from surface to TD, again, with the assembly in the ground in under 5 days. So think about that, 4.9 days was the total. So these continually improving drill times really help reduce the impact of ongoing inflationary pressures.

Some detail on our North Montney development. We continue to plan for what we call Conroy, which is our North Montney development. Notably, this expected 100,000 BOE per day liquid-rich gas project actually represents one of the largest single conventional development upcoming in the Western Canadian Sedimentary Basin over the next few years. So we're going to continue to grow Tourmaline in a meaningful way.

Current timing for full project start-up is 2025-2026, and that coincides with the startup of LNG Canada, which we expect to be structurally positive for Western Canadian gas supply demand dynamics and, of course, natural gas pricing. So far that full development, including production, cash flow and capital spending is not in the existing 5-year plan that we just published, a revised one.

We've drilled so far, over the past 9 to 12 months, 12 delineation pads on the new Laprise-Conroy-Aitken land. And that's to define liquid content, well performance profiles and capital cost in advance of the full development. And the results, we're pleased to say have been very strong.

As part of our long-term associated Conroy facilities plan, we acquired the remaining 50% non-op interest in the 2 Aitken area gas plants that came in the Black Swan acquisition from AltaGas for $224 million, and that closed during Q2. The plants, including the deep cut expansion, have a combined processing capacity of 290 million per day, and both are operating at full capacity. Annual OpEx savings resulting from this transaction are estimated at about $27 million per year.

On environmental performance improvement, after achieving our net 25% methane emission reduction target 3 years ahead of schedule, we're currently establishing new rigorous targets to further reduce those emissions. And technology initiatives currently being developed include continued pneumatic pump retrofits, installation of solar electric pumps, conversion of separators to full solar electric, and the pursuit of 0 emission wellsite technology.

We have successfully transitioned all of our drilling rigs under contract from diesel to natural gas, achieving both a material emissions reduction and a net cost savings. We also continue to evolve several CCUS initiatives within all 3 operated complexes, and plan to implement these potentially material emission reduction opportunities at a selection of our gas plants in the '25 to 2030 time frame.

Tourmaline will begin providing low emission Canadian natural gas to Europe and Asia in 2023 via our Gulf Coast LNG pathway, and we'll continue to explore opportunities to expand this business segment. We believe that a growing Canadian LNG business providing ever lower emission Canadian natural gas to the developing world is one of the best things our country can actually do for the global atmosphere. And it's an enormous sustainable win for the entire Canadian economy. So it's an environmental win, an economic win and an energy security win. So kind of a hat-trick for Canada as we go through the playoffs here.

So that's it, and happy to answer questions.

[Operator]

[Operator Instructions] Your first question comes from Patrick O'Rourke, ATB Markets.

[Patrick O'Rourke, analyst]

Congratulations on the very impressive special dividend there. Just wondering, we had a small ball here. But in terms of the AltaGas working interest acquisition there, to my recollection, your preexisting working interests or operating interest in that plant has not been dropped down into your sort of infrastructure, structure that you have here. You're well through your net debt target. You've got a very good-looking free cash flow profile going forward. Are you still looking to sort of monetize into your royalty vehicle, some of these facility working interests?

[Michael Rose, executive]

It's something we always keep in mind, but nothing imminent at this point, and it was important for us to consolidate to 100% in the North Montney facilities prior to embarking on a significant build-out over the next few years.

[Patrick O'Rourke, analyst]

Okay. And then just a second question very briefly here. I think that you guys have been on record saying that you've sort of acquired a lot of the core properties that you were looking to for your medium- and longer-term strategy. Obviously, the cash taxability horizon is creeping up on very fast with where your prices have gone here. I'm just wondering how sort of tax pools can come into play in any sort of incremental M&A going forward here for Tourmaline.

[Brian Robinson, executive]

It's Brian speaking. I mean certainly, if you go back over the last sort of 30 months the acquisitions that we did do greatly enhanced our tax pools. So the tax basis on those businesses was higher than the actual flowing barrels and so on. So we're happy about that. And that has been an aid for us in pushing the tax rise note. We started the year here with above $9 billion in tax pools, and of course our most favorable one taken out first year in 2022. And the tax horizon will get pushed out a bit, as Mike mentioned, with the investments that we're planning on our Conroy, North Montney development. But to be sure, there is going to be cash taxes here, and we're going to be fully taxable in the later years in that plant that we've laid out for you.

[Operator]

Your next question comes from Fai Lee, Odlum Brown.

[Fai Lee, analyst]

I'm just wondering if you can help me, I just want to understand this in your LNG deal and make sure I understand correctly. You basically will ship the gas to the Gulf Coast, I think the toll you talked about was $0.86. I'm assuming with some processing fee that Cheniere will collect for processing and to convert to liquid, and when you transfer it to Asia and maybe some cost to that. So let's say if I see in that cost to get to the Gulf Coast, liquefy and ship to Asia of about $7. If the pricing stay at $26, would you collect the $19 less your op cost, the netback, is that the way to think about it?

[Jamie Heard, executive]

That's roughly the way to think about it. The $7 you got might be a little aggressive. But yes, it's in U.S. dollars, that would be our netbacks. Just put it in another way, maybe 6% of our gas, but it's going to amount to roughly 13% to 15% of our revenue. It's a very material cash flow impact in 2023. And over the last 6 months, you've seen the forward years of '24, '25, '26 on JKM pricing also greatly improved, all of which are now well over $10. So it's going to be definitely a very valuable contract, particularly in the near term.

[Fai Lee, analyst]

Sorry, when you said $7 is aggressive, like too low or too high?

[Jamie Heard, executive]

Probably a little high, high.

[Fai Lee, analyst]

A little high. Okay. All right. So maybe $6 or something. And the dynamic has obviously changed since you put the deal in place last year. So it looks like European pricing might be a little bit better, and may be cheaper to ship there. Can you switch over? Or is the deal kind of locked to JKM?

[Jamie Heard, executive]

It is a JKM index deal. In the long term, the floating arc between TTF and JKM should actually be relatively tight. It will be the shipping arc between the 2 jurisdictions. So while this year definitely has featured some real tightness as Europe has rapidly transitioned to LNG imports. Over the longer term, we think those 2 markets will hold hands very nicely. And so we see the JKM market as an indicative market for basically all LNG floating prices.

[Fai Lee, analyst]

Okay. And sorry, the last question for me is in your 5-year plan, this $26 strip pricing, is that built into your 5-year plan right now in terms for next year?

[Jamie Heard, executive]

Yes, it is. It's the exact strip that JKM has. So it is backed within that, yes.

[Michael Rose, executive]

Yes. The 5-year plan on April 14 strip, at that time, 2023 was $23 and the backwardation is roughly $3 a year, I think the last year is in the low teens.

[Operator]

Your next question comes from Aaron Bilkoski, TD.

[Aaron Bilkoski, analyst]

I guess my question is around the use of free cash flow. So when you talk about the majority of free cash flow going to shareholders if I assume that means either 50% or even more than 50%, you'll be building that cash and getting further and further away from that $1 billion permanent debt target. I guess my question is are you comfortable being in a net cash position for a period of time? And if the answer to that is yes, what would you be waiting on before you deploy that?

[Michael Rose, executive]

We're comfortable taking debt well below the $1 billion bottom end of our sort of long-term debt target. To some extent, we can bank cash for the North Montney development, which will be a significant expenditure. So as we start proceeding with that, we might, in effect, have it prefinanced. We do allocate pools of available free cash flow for ongoing asset acquisition. Obviously, that slowed down and we backed away from certainly corporate M&A.

We're always looking for midstream deals that improve the margin on every BOE we produce. And even if it's just a couple of bucks of BOE when you can evolve it with our 20,000-plus location inventory, we think those are very good investments to make on behalf of our shareholders. Brian or Jamie, anything you guys want to add?

[Jamie Heard, executive]

I think we just underscore we're definitely committed to returning the majority of free cash to shareholders this year. So that per share -- total free cash per share is $12. The majority means in excess of $6 to be distributed through base dividends, special dividends and potential taxable share buybacks.

[Aaron Bilkoski, analyst]

Can I ask another one?

[Michael Rose, executive]

Yes.

[Aaron Bilkoski, analyst]

To what extent can -- I'd just have you hedge, can you and are you willing to hedge JKM in 2023 and beyond?

[Michael Rose, executive]

Well, we are starting to explore those opportunities and work on it. We haven't done a lot of that yet, but we fully plan on doing so.

[Operator]

Your next question comes from Josef Schachter, Schachter Energy Research.

[Josef Schachter, analyst]

Congratulations on the results and the comments you made, the dividend and the special dividend. My question is more on the S of the ESG, the societal thing. With storage being so low in both sides of the border, the data from EIA last week was 17% below the 5-year average and 21.4% below the prior year. Are we looking at a potential that when we get to November when we go into withdrawal season, that we may have a shortage of supply, if we have a normal or worse than normal winter, and where do you see pricing going?

Are you looking at double digit, not that this then become, I think, where there's a bull's eye on the industry, because of the moving prices, which could be triple for winter heating in '22, '23 versus '21, '22?

[Michael Rose, executive]

Well, they're all good questions. I mean obviously, it's a very volatile environment. I'd say supply and demand are relatively imbalanced. So we do expect storage injections to pick up here on both sides of the border. And I think we'll head into winter probably lower than normal, but I suspect we'll have adequate supplies and I don't think anybody wants really agree to just price spikes, I know where you're going with it. And we agree with you, it's really not constructive for anybody.

[Jamie Heard, executive]

Kind of on the theme of energy security. If you are an exporting jurisdiction and Canada export of gas, North America, the whole export of gas, that gives you another lever to make sure you always have enough gas at home. You can price to the point where exports are out. And so the scenario in which North America as a whole could run out of the gas is extremely difficult, it's unlikely.

[Josef Schachter, analyst]

Yes. The only problem with it is, of course, the price, which would be the consumers and given all the other inflationary pressures that kind of turns it into -- the industry into a political football, which we all hope doesn't happen. Just wanted to get some insight on that.

[Operator]

There are no further questions at this time. Please, I'm going to turn this back over to Mr. Scott Kirker.

[W. Kirker, executive]

Thanks, everyone, for spending some time with us. We'll talk to you next quarter.

[Operator]

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