Tourmaline Oil Corp

TSX:TOU

Earnings Call Transcript 2022-Q4

[Operator]

Good morning, ladies and gentlemen, and welcome to the Tourmaline Q4 2022 Results Conference Call. [Operator Instructions] I would now like to turn the conference over to Scott Kirker, Chief Legal Officer. Please go ahead.

[W. Kirker, executive]

Thank you, operator, and welcome, everyone, to our discussion of Tourmaline's results for the 3 months and years ending December 31, 2022 and 2021. My name is Scott Kirker, and I'm Tourmaline's Chief Legal Officer.

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 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; and Brian Robinson, Vice President, Finance and Chief Financial Officer; and Jamie Heard, the Manager of Capital Markets for Tourmaline. We will start by speaking to some of the highlights of the last quarter and our year so far. 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'll go over what we thought was a very strong 2022, and that's continued on into 2023. So some of the highlights. Our full year 2022 cash flow was a record $4.9 billion or $14.26 per diluted share, and that's up 67% over 2021. Q4 '22 cash flow was $1.4 billion or $4.08 per diluted share.

We generated a record $3.2 billion of free cash flow in 2022. And our '22 after-tax net earnings were $4.5 billion or $13.10 per diluted share. We also paid out $7.90 per share in base and special dividends to shareholders in '22, which is approximately a 12% trailing yield. Our 2P reserve value per diluted share based on the current Jan 1, '23, engineering price deck, is $143 per share before tax, or $109 million after tax. Total proved is $97 before tax, $75 after tax, and our PDP NAV is $54 per share.

Full year 2022 average production was up 14% over 2021. Our current production is ranging between 520,000 and 530,000 BOEs per day, and that's consistent with where our expected first quarter average will be. At current strip pricing, we expect to generate cash flow of approximately $3.8 billion in 2023 and free cash flow of approximately $2 billion on unchanged EP CapEx of $1.675 billion.

So we're trading right now at an approximately 10% free cash flow yield. Exit '22 net debt was $494 million or 0.1x Q4 '22 annualized cash flow. Year-end PDP reserves were up 25% year-over-year to essentially 1 billion BOEs. Total proved reserves were up 14% and 2P reserves of 4.5 billion BOEs were up 10% and over year-end '21.

We replaced 240% of 2022 annual production of 183 million BOEs with our 2P additions of 440 million BOEs, and that includes '22 production. After 14 years of operations, we have 20.7 Tcf of 2P natural gas reserves, one of the largest, lowest development cost, lowest emission natural gas reserve bases in North America.

Looking at production in a little bit more detail. I mentioned current production between 520,000 and 530,000 BOEs a day, and that's despite a reduction in NGL volumes of approximately 8,000 BOEs a day relating to a third-party pipeline system interruption that lasted 6 weeks.

It's back on stream now, and there's no change to our full year '23 average production guidance of a range between 520,000 and 540,000 BOEs per day. '22 average liquids production of 112,500 barrels per day was up 16% over '21, and we are the largest NGL producer in Canada. And a milestone, we produced our 1 billionth BOE of production since inception in 2008 on February 9.

Turning to the financial highlights in a little bit more detail. We generated, as I mentioned, a record $3.2 billion of free cash flow in 2022. We increased the quarterly base dividend 3x in '22 to an annualized $1 per share, so a 39% increase over the year, and we paid for special dividends that totaled $7 per share in calendar '22. And we have committed to returning the majority of annual free cash flow to shareholders, and we're certainly executing on that plan.

And in '23, we plan to return between 50% and 90% of free cash flow to shareholders. This year, so far, we paid a special dividend of $2 per share in early February, and we plan to pay special dividends for the remaining 3 quarters in the year as well. As mentioned, exit '22 net debt was $494 million, and that's well below our long-term debt target of $1 billion to $1.2 billion. And the company is actually in a surplus position if you include the value of our 45 million shares of Topaz Energy Corp.

A little more on '22 reserves. As mentioned, PDP is now 1 billion BOEs and was up 25% year-over-year. And we're very happy to have 2P reserves now at 4.5 billion BOEs and up 10% year-over-year. 2022 PDP FD&A costs were $8.74 per BOE, and that yielded a PDP reserve recycle ratio of 3.06. And if you use Q4 '22 cash flow per BOE of $29.80, you get 3.41. And after 14 years of operation, that 20.7 Tcf of 2P natural gas reserves we believe, is the largest in Canada.

Importantly, we've only booked 3,359 gross locations of our total well-defined drilling inventory of over 23,000 locations. So we still only book 14.6% and already have 2P reserves of 4.5 billion BOEs. So lots more to come. The current future development capital associated with the 2P reserves represents approximately 4 years of prospective cash flow at strip pricing. And so it's always been the case, we will systematically convert those 2P reserves into PDP reserves in a very realistic time frame.

A little on marketing. We do continue to diversify our natural gas and liquids marketing portfolio in an effort to realize the best possible pricing for all of our hydrocarbon streams. Diversification has played a major role in enhancing Q4 '22 cash flow, and that will continue in 2023.

In January of this year, we commenced delivery of our 140 million per day to the Cheniere Sabine Pass LNG facility. And by virtue of that became the first Canadian E&P company to participate in the LNG business with full exposure to JKM pricing, and that provides a material increase to our '23 cash flow. As of Feb 15, '23, the JKM Strip is USD 19.24 per mcf.

During '23, we'll actually increase our natural gas volumes exported to Western U.S. markets from 345 million per day to 495 million per day with an average of 74% of that gas accessing the premium-priced PG&E California market over the calendar year. Our average realized natural gas price in Q4 '22 was $6.89 per mcf as we benefited from that aforementioned strong gas pricing in Western North America.

We have an average of 791 million per day hedged for '23 at a weighted average fixed price of CAD 5.93 per mcf; 140 million per day hedged at a basis to NYMEX of USD 0.42 per mcf; and an average of essentially 700 million per day of unhedged volumes exposed to export markets in '23, and they're all listed there, but the premium ones are Sumas, US Gulf Coast, JKM, Malin and PG&E.

A little on E&P. In calendar '22, we drilled a total of 240 net wells that equated to almost 1.3 million meters, and that was the most in the Western Canadian Sedimentary Basin. We have no material facility projects in the '23 budget. Hence, we anticipate very strong '23 capital efficiencies of approximately $9,000 per flowing BOE, and we expect that will rank very well in the North American energy space.

Coming into the year had 300 ballot drilling permits in Northeast BC. And so far, we've received an additional 55 drilling permits during the first quarter so far and certainly expect more. On the exploration front, in 2022, we drilled 11 new pool or new zone discoveries. And we've made 2 additional discoveries in 2023 to date, and we're currently testing those. Essentially, 1 net rig of the 14 we're currently utilizing will continue to drill a new pool, new zone exploration wells in '23. And these successful discoveries, ultimately, will access our existing infrastructure.

Turning to environmental performance improvement. We've had an engineering team in place for over 4 years, developing and implementing new proprietary emission reduction technologies, executing our expanded water management initiatives, managing our third-party environmental-related research and evolving large methane testing center in the Deep Basin, and we intend to invest $30 million to $50 million per year on further EPI initiatives.

We've been displacing diesel with nat gas on all of our drilling rigs in the operated fleet, and we actually have 1 rig running on high line power. Since embarking on this diesel displacement initiative over 5 years ago, we've displayed approximately 91 million liters of diesel and that has actually saved us $86 million, while yielding an emission reduction of a little under 58,000 tons.

The company is recognized as having the lowest freshwater intensity for '21 in its well stimulation operations, and that intensity is 0.11 barrels per BOE. And finally, we're pleased to announce that the Board has declared a quarterly cash dividend on its common shares of 25% -- $0.25 per common share, and that will be payable on March 31 to shareholders of record at the close of business on March 15. That's all I was going to say for comments. And so we're more than happy to answer questions that you might have.

[Operator]

[Operator Instructions] Your first question comes from the line of Jeremy McCrea from Raymond James.

[Jeremy McCrea, analyst]

Just outside the commodity. Where do you think Tourmaline could really surprise the market this year? Is it like new technology that you guys are working on, new exploration fields, like LNG agreements, more acquisitions? Just kind of curious where you think you could surprise us.

[Michael Rose, executive]

Well, I think we could surprise you on any of those, and we're working on all 4 of those. So looking for more gas market diversification, always looking at M&A opportunities, but we prefer things when they're less expensive. The exploration program is going very well. So you'll see more disclosure on that during the year. And our kind of preference and how our marketing diversification set up is we're very focused on the West, and we've actually had winter in the West and so very strong pricing, and we think that puts a pretty good floor on summer particularly what's going on, on the West Coast in the U.S. where they're actually getting dangerously close to cushion gas and it's staying cold there. So most of that gas is supplied from Canada now into that market. And so that puts a floor, and I expect the Westgate will be in that 2.8 to 3 Bs a day for most of the summer. Jamie, anything you want to add on that?

[Jamie Heard, executive]

Now that we have the ability to drill more of our land in the North Montney, I think you should be closely watching all results as we come out with more and more new pads and new wells in the Conroy area, and we're very constructive on what we've seen so far, but I think we're going to have a chance now in 2023 to showcase how that asset is performing. And I think it's going to compare it very, very well relative to the results we've seen from us and others over the last 2 years.

[Jeremy McCrea, analyst]

Okay. And just on your guidance with those new wells that you're potentially coming in better, just improving efficiencies, is that reflected in your guidance? Like how much would that be reflected in your guidance, if at all?

[Michael Rose, executive]

There's certainly some upside ahead of expectation well performance continues, but we're not changing anything at this point.

[Jeremy McCrea, analyst]

Okay. And just maybe just last question here. Just with the gas price is falling quite a bit, has that opened up much more M&A here at these prices here? Are you seeing more inbound? How is kind of the first couple of months here of Q1 look versus what it was last year here?

[Michael Rose, executive]

I'd say that price play that you referred to was very rapid. And I'd say that I don't think you've seen that kind of play out in the M&A market yet, just too soon.

[Operator]

[Operator Instructions] Your next question comes from the line of Lee Cooperman from Omega Family.

[Leon Cooperman]

Let me congratulate you guys on doing a fabulous job on behalf of all the shareholders. I think you've done nothing short of a brilliant job in positioning the company. So I've got to ask you since you're so smart, what are your priorities for the use of your free cash flow? I mean, I think I know the answer, but it could be dividends, M&A, debt repayment, which doesn't seem to be likely, and stock repurchase. Where do you want to be a big buyer of your own stock?

[Michael Rose, executive]

Well, we're just looking at that right now. I think we've always said that we'd be there in a defensive way, if there's a market dislocation. We currently don't have a programmatic buyback in place, but we're absolutely looking at it. And all of those uses of free cash flow you referred to, we'll execute on. We also like midstream investments where we can permanently improve our margin. You see how large our reserve base is now. So if we can make investments that improve that margin by $1 or $2 per BOE, we think that's a huge win for shareholders and a good use of free cash flow on behalf of those shareholders.

[Leon Cooperman]

Right. Well, I'm going to watch what you do because I have so much respect for you. But the average analyst expectation for our target is about $90, the stock's at $60, that's 50% upside. If you agree with that, and you think it makes sense, I would think repurchase, well, we shouldn't be far off. I don't have a lot of respect for the analyst input. Your brother in law's company. When the stock was $2, everybody had $2 target, now everybody has a $30 target. So, whatever.

[Michael Rose, executive]

Thanks for your support, too.

[Operator]

Your next question comes from the line of Jamie Kubik from CIBC.

[James Kubik, analyst]

I just have one. I appreciate that a couple of months ago, Tourmaline refined it's capital spending guidance for 2023. But if natural gas prices remain relatively weak here, would you look to potentially adjust that for the back half of 2023.

[Michael Rose, executive]

Yes, we'll look at it. I mean we get the usual breakup related natural slowdown in operations. So we'll go from 14 rigs to 4 rigs through Q2, and it gives us 3 or 4 months from here to see where natural gas prices settle out. We think the bottom, but I think we're all not particularly good at predicting where natural gas prices are going to go. So at this point in time, no change to the EP program, and we're like right on target, as mentioned. But if gas completely falls away, we would definitely look at something in the second half of the year. So to be determined.

[Operator]

Your next question comes from the line of Fai Lee from Odlum Brown.

[Fai Lee, analyst]

Mike, I just wanted to -- just comment a little bit on kind of what you're seeing in terms of cost inflation and cost inflation pressures right now?

[Michael Rose, executive]

Yes. I mean we took our inflation provision up when we provided an ops update on January 12 of this year. So in mid '22, we'd estimated inflation at 18% over '21 average cost. And then that was not a large enough provision. So when we talk to the market in mid-January, we took that up to 25%, and we think that's more than adequate at this point in time.

[Fai Lee, analyst]

Okay. And do you see any potential for that pressure to ease given the lower commodity price environment?

[Michael Rose, executive]

Well, you think so. Again, I'd say it's too early to see that. But I mean, I would -- if we're going to have to deal with lower gas prices, I'd love to deal with lower costs.

[Fai Lee, analyst]

Okay. And just kind of related to that, I guess, the Conroy North Montney development project, there -- in terms of thinking about inflation and risks there cost overruns. How are you kind of thinking about that right now and trying to mitigate that type of risk?

[Michael Rose, executive]

Yes. No -- on the drilling side, I mean, that is our best drilling area from a performance standpoint. So we're knocking those 3,000 meter [ mining ores is all off ] in 6 to 7 days now. And so we're -- and we've done 14 pads up there as part of that North Montney delineation before we put the infrastructure on the ground. So a big win there. that's down sort of 15% year-over-year on drill time. So that contains costs, if you like. We don't get a net win now because of inflation. We have assembled some of the parts of the North Montney infrastructure already.

If you look back at the acquisitions we've done, there are some pipelines and liquids hub and other parts of it are on the ground. It will be one of the largest, maybe the largest Western Canadian conventional project at about 100,000 BOEs a day in that sort of '25 to '27 time frame. So it's a little bit out there, time-wise. It's in the back half of our 5- to 6-year EP plan. We don't start incurring expenditures until late '24, and that will be the long lead time components of the deep cuts, the turbo expanders. So we've got some time to see where inflation goes. So we got it contain on the D&C side. And we're pretty good at building and installing these plants, and we're usually ahead of schedule and very efficient in our construction operations. So yes, we're looking forward to getting that done.

[Operator]

Your next question comes from the line of [ Hank Wangberg ], Investor.

[Unknown Attendee]

Tourmaline has posted an $885 million loss in financial instruments for '22. Can you give me some clarity and explain what they are? And perhaps tell me what instruments you have in place for 2023?

[Michael Rose, executive]

The majority of this loss actually relates to our embedded derivative associated with our JKM contract, and this is something that's going to move around quarter-to-quarter based on the fair value of the JKM forward strip for the next 15 years. And the numbers are large because the value of this contract has been large. JKM came down a little bit between Q3 to Q4. And so that value of the entire 15 years is PV-ed and adjusted. It was also a large gain in our Q3 disclosure as well.

So this does add some noise into our earnings disclosure. We would definitely encourage you to think and look more closely at the cash flow disclosure on a quarter-to-quarter basis because it doesn't have these forward embedded derivative adjustments, which frankly make earnings less easy to understand as a judgment of the performance of the business.

[Unknown Attendee]

Yes. Unfortunately, though, it looks like the market looks at the earnings. And certainly, today, Tourmaline has got a fairly large hit on their share price. I'm not sure how you can protect that in 2023, as a shareholder, I don't like to see those kind of drops in the share value.

[Michael Rose, executive]

Yes. I totally understand that. And I think over a longer period of time, and especially looking at earnings over multiple quarters or definitely last year, the annual earnings are fantastic. You're going to see extremely strong financial results from Tourmaline. And I think as the market continues to digest the outlook that we have ahead of us, you're going to see that reflect in the share price performance.

[Operator]

Your next question comes from the line of Peter Cooke from Logan Capital.

[Peter Cooke, analyst]

Mike, congratulations again on a great report. Question on that LNG contract. What's the -- 3,000 miles you're shipping the gas, what's your cost on shipping and also in the compression of that gas I was just curious what your net would be -- net revenue would be?

[Michael Rose, executive]

We pay USD 0.86 to get from here in Alberta or BC to plant inlet on the Gulf Coast. And then our liquefaction and shipping and transport costs all in, so that would include the pipeline, the 3,000 miles you referred to is about USD 5.

[Peter Cooke, analyst]

How much?

[Michael Rose, executive]

$ 5. So when we get -- so if JKM's $25, we net $20. It's kind of an easy way to look at it.

[Peter Cooke, analyst]

Okay. Yes, it's confusing because on that derivative because you had a $1.5 billion derivative on your net earnings in the quarter, and that's all based on the LNG project.

[Michael Rose, executive]

It's based on that contract, that's correct. So it was -- I can't remember in Q3. I think it was a $2 billion win on earnings, and then it dips around in Q4. So as Jamie pointed out, it just creates noise. The fundamental profitability of the business, I mean I look at the $3.5 billion over calendar '22, $1.5 billion is the JKM contracts. So it's a net positive, and then you've got $2 billion of operated earnings, if you like, it's kind of a good way to look at it. Brian, anything you want to add?

[Brian Robinson, executive]

Yes. Like on this contract point forward, over time as we continue to physically deliver in the absence of sort of unusual world events that are really causing big movement in one specific market, like, for example, JKM that will narrow. So you won't see as much swinging in this. We had a huge initial lift in its overall valuation, then it pulled back a bit and over time, it will just sort of narrow more and more and more, would be our expectation.

[Michael Rose, executive]

The good part though is it's a huge win to our cash flow and free cash flow in 2023. That's how I think about it, Peter.

[Peter Cooke, analyst]

And Rose, it also looked like you sold forward you've got about $34 price for a fair amount.

[Michael Rose, executive]

Yes, we're mostly biased towards the summer.

[Operator]

As of the moment there are no further questions at this time. Mr. Scott Kirker. Please continue.

[W. Kirker, executive]

Thanks, everyone, and thanks, operator. Thanks, everyone, for attending, and we'll see you next quarter.

[Operator]

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