Topaz Energy Corp

TSX:TPZ

Earnings Call Analysis

Strong Second Quarter Performance and Dividend Increase

Topaz Energy Corp. reported a robust second quarter with earnings of $70.6 million, or $0.49 per diluted share, up 4% from the previous quarter and year. Key drivers included a 12% increase in crude oil and 20% rise in heavy oil royalty production. Significant achievements include completing the Alberta Montney infrastructure acquisition, expected to add $13-$14 million in annual revenue. The company also announced an increased annual dividend of $1.32 per share, a 65% growth since inception. For 2024, Topaz reaffirmed its guidance with 18,800 to 19,600 BOE per day in production and $75.5-$78 million in infrastructure revenue.

A Strong Quarter Reflecting Growth

Topaz Energy Corp. reported a robust second quarter in 2024, generating $70.6 million in earnings or $0.49 per diluted share, marking a 4% increase compared to both the previous quarter and the same period last year. This growth was fueled by a 12% rise in crude oil and a 20% increase in heavy oil royalty production. The company successfully enhanced its revenue streams with higher realized oil pricing, which is a positive indicator for investors.

Expansion Through Infrastructure Acquisition

A key highlight from the quarter was the acquisition of Alberta Montney infrastructure, which is expected to contribute approximately $13 million to $14 million in annualized contracted revenue. This acquisition signifies the firm’s continued commitment to expanding its asset portfolio, which now includes three major infrastructure acquisitions over the past year.

Dividend Growth Strategy

Staying true to its policy of promoting dividend growth alongside sustainable revenue, Topaz declared a second dividend increase for 2024, now at an annualized rate of $1.32 per share. This represents an impressive 65% increase since the company's inception. The infrastructure asset portfolio currently supports 45% of the company's dividend, showcasing the financial sustainability of its model even in volatile commodity price environments.

Effective Hedging Strategy

Topaz has deployed an efficient hedging strategy, securing 80% of its natural gas at an average price of CAD 3.17 per Mcf and 40% of total liquids at a floor price of CAD 102.54 per barrel. This strategic approach helps insulate revenues against commodity price fluctuations, ensuring stability in dividend payouts.

Operational Metrics and Growth Opportunities

In the second quarter, the average royalty production reached 18,700 BOE per day, with record levels of heavy oil production exceeding 5,000 BOE per day. The company benefited significantly from operator development activities, witnessing a 15% increase in wells drilled compared to the previous quarter, further contributing to production success and showcasing the strength of Topaz's royalty portfolio.

Financial Flexibility and Debt Management

Topaz anticipates ending 2024 with net debt of approximately $345 million to $355 million, corresponding to a net debt to EBITDA ratio of 1.1x. This level of debt is manageable and allows the company to retain financial flexibility for future acquisitions or further dividend increases, vital for long-term growth.

Expectations for the Remainder of 2024

The company has reaffirmed its guidance for 2024, expecting royalty production in the range of 18,800 to 19,600 BOE per day and infrastructure processing revenue between $75.5 million and $78 million. This visibility into future performance metrics is crucial for investors looking to assess growth potential.

Looking Ahead: M&A Activity and Market Position

The management expressed excitement about potential future M&A opportunities, particularly given the current market conditions post various operators’ asset sell-offs. Topaz aims to selectively pursue opportunities that align with its strong portfolio without diluting the existing asset base, suggesting a carefully measured growth strategy.

Conclusion: A Promising Growth Trajectory

Overall, Topaz Energy Corp. appears to be on a promising trajectory with solid financial performance and strategic growth initiatives. The company’s careful management of its resources alongside a commitment to enhancing shareholder value through dividends and acquisitions paints a favorable outlook for prospective investors.

Earnings Call Transcript 2024-Q2

[Operator]

Good morning. My name is Lara, and I will be your conference operator today. At this time, I would like to welcome everyone to the Topaz Energy Corp. Second Quarter 2024 Results Conference Call. [Operator Instructions] Thank you. Mr. Staples, you may begin your conference.

[Marty Staples, executive]

Thank you, Lara, and welcome, everyone, to our discussion of Topaz Energy Corp.'s results. as at and for the period ended June 30, 2024. My name is Marty Staples, and I'm President and CEO of Topaz. With me today is Cheree Stephenson, CFO, and VP Finance.

Before we get started, I refer you to the advisories on forward-looking statements contained in the news release as well on the advisories contained in the Topaz annual information form and within our MD&A available on SEDAR and our website. I also draw your attention to the material factors and assumptions in those advisories. We will start this morning by speaking to some of the highlights of the second quarter of 2024. After these opening remarks, we'll be open for questions.

Topaz had a very strong second quarter [ $70.6 ] million or $0.49 per diluted share, representing a 4% per share increase over both the prior quarter and prior year. Second quarter cash flow growth from the last year was driven by 12% higher crude oil and 20% higher heavy oil royalty production, in addition to higher realized oil pricing. The Alberta Montney infrastructure acquisition that was completed during the second quarter marks Topaz's third infrastructure acquisition over the past 12 months, and is expected to provide $13 million to $14 million of annualized contracted revenue.

Following our strategy to provide dividend growth alongside sustainable revenue growth, we are pleased to announce that our Board has approved a second dividend increase for 2024, which marks our eighth dividend increase to date. The annualized dividend of $1.32 per share represents 65% share growth since Topaz inception. Our infrastructure asset portfolio provides stable, high-margin revenue that covers 45% of our dividend. Combined with our hedging strategy, our dividend is sustainable to commodity prices of $0.01 per Mcf natural gas and USD 50 per barrel crude oil.

For the remainder of 2024, 80% of natural gas has hedged at a weighted average price of CAD 3.17 per Mcf and 40% of oil and total liquids is hedged at a weighted average floor price of CAD 102.54 per barrel using collar structures to maintain upside participation.

Topaz's second quarter average royalty production of 18,700 BOE per day, was 33% total liquids as light and oil, heavy oil roll production achieved a new record, exceeding 5,000 BOE per day. The value of our royalty portfolio continues to be demonstrated through the strong, reliable level of operator development activity and investment in enhanced recovery techniques across our acreage.

During the second quarter, 94 gross wells were drilled on our undeveloped royalty lands, representing 15% of the total wells drilled across the Western Canadian Sedimentary Basin, which increased from 12% during the first quarter of 2024.

Operators spud 94 gross wells and reactivated 7 gross wells on our acreage during the second quarter. Drilling was diversified across the royalty portfolio as follows: 32 Clearwater, 33 Northeast BC, 13 Deep Basin, 7 Southeast Saskatchewan, 6 Central Alberta and 1 Peace River.

We estimate that operators spent approximately $0.4 billion in development capital across our acreage during the quarter. Based on operator drilling activity, we expect the current 28 to 31 active rigs on Topaz's acreage will be maintained through the third quarter of '24. Based on operator disclosure, we estimate that 20% of Topaz Clearwater heavy oil is now supported by waterflood, which is demonstrating positive response to improve recovery and stabilized production rates.

Topaz's second quarter royalty revenue of $60.2 million represented 77% of total revenue and generated a 99% operating margins. Q2 2024 royalty revenue increased by 4% over Q2 2023. Second quarter processing and other income of $18.2 million represented 23% of Q2 total revenue and was 7% higher than prior year. Our infrastructure assets realized 100% capacity utilization in the quarter and generated a 91% operating margin.

Topaz generated total second quarter revenue and other income of $78.4 million and free cash flow of $69.5 million, which increased 5% from the prior year and represents an 89% free cash flow margin.

Second quarter earnings per share was 2x higher than the prior year due to higher royalty production and processing revenue and lower operating finance and amortization expenses. Topaz distributed $46.4 million in dividends during the quarter, resulting in a 66% payout ratio and generated $23.1 million in excess free cash flow, which was allocated to acquisition growth.

We have reconfirmed our 2024 guidance ranges of 18,800 to 19,600 BOE per day of royalty production and $75.5 million to $78 million of infrastructure processing revenue and other income. Based on current commodity pricing, and before any additional acquisitions, Topaz expects to end 2024 with net debt ranging between $345 million and $355 million or 1.1x net debt to EBITDA. The 2024 dividend represents a 66% payout ratio based on recent commodity price forecast, which maintains financial flexibility to allocate excess free cash flow to acquisition growth or further dividend increases.

We're pleased to answer any questions at this time.

[Operator]

[Operator Instructions] Our first question comes from the line of Josef Schachter from Schachter Energy.

[Josef Schachter, analyst]

Congratulations on the quarter dividend increase. The market likes it a new record high for the stock today. So congratulations and all that. My question is 2 of them. One relates to the Musreau deal with White Cap. What is the utilization of that facility right now, now that it's come on stream? And do you have -- if they continue to grow that area, which from the White Cap call, Grant was talking about that. Would they -- if they do an expansion or a new facility, would you be involved in that as well?

[Marty Staples, executive]

Yes. Sure. So yes, thanks, Josef, for the nice words today. Nice to talk to you again. The Musreau deal right now from disclosure from White Cap, it's producing 14,000 BOE per day out of the 20,000 BOE per day nameplate capacity, so about 70% utilized, they do anticipate they will be fully utilized by the end of 2024. This was commissioned in March of '24. So it is their newest facility. They did build it for purpose. So we do anticipate it will be utilized -- fully utilized by the end of the year.

Saying that the way our contract exists right now, they only need 60% utilization to fill our priority fill. And so our contract is completely full right now down to 60% utilization. So we don't anticipate any issues with that through the length of the 10-year term. And then after that, we have a 7-year pro rata fill following the 10-year take-or-pay commitment.

Saying that, yes, we do think that this is a growth area for White Cap. They do have line of sight, I think, to some acreage or trying to get some more acreage into this battery. So from our side, we do think them building a fit-for-purpose facility right in Musreau, where they're developing some of their best Montney wells right now in the D2 and D3 [ foundation ] is a big benefit for Topaz and the infrastructure we are participating alongside White Cap with.

[Cheree Stephenson, executive]

And one more comment, Josef, this is Cheree, obviously, with expansions, if they were to expand that we do have the right and not the obligation to participate alongside. So we would be willing to participate alongside the new growth projects within that.

[Josef Schachter, analyst]

Okay. Super, yes. That's good. That so I was hoping. Second question on the M&A side. With the low price of natural gas, we're hearing -- of course, this deal was done. We hear from [ wherein ] in their conference call that they want to knock down their debt even more. They did the sale to [ Saturn ] of Saskatchewan assets. They mentioned at the end of the call in the Q&A that they were also looking at selling infrastructure. Are you seeing a lot more traffic on the infrastructure side. And between now and year end, do you think that there's chances for doing more deals?

[Marty Staples, executive]

Yes. I mean we're seeing opportunities on both sides. I think this is something I've echoed before on other conversations. It's about the quality that we're willing to put inside this organization. We don't want to be dilutive to the existing asset base that we have in place already. So from our side, we are seeing opportunities. It's -- we're going to be picky and choosy about which opportunities we participate in, though, and with which operators, I think -- yes, into the latter part of this year, there probably is a need for capital and Topaz does want to be there to assist in that need for capital for select partners.

[Josef Schachter, analyst]

In terms of deal flow, is it more active now than it was a year ago? Just to get a feel for that.

[Marty Staples, executive]

I would say it's pretty balanced. We spent a lot of time pitching ideas and don't wait for just an opportunity to come to us. And so we're always busy with something. We continue to kind of focus and kind of adhere to our strategy. And yes, we want to be participants in any type of M&A that's out there and generate our own ideas. So I would say it's similar to what we saw last year, and we're being patient on what we want to transact on.

[Operator]

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

[James Kubik, analyst]

I'm just curious if you can elaborate a little bit on what you're seeing on the light oil side of your business with respect to activity that we did note some pretty good performance. And light medium oil volumes in your quarter? And just curious on what else you can tell us on that front and what it might be for the rest of 2024?

[Cheree Stephenson, executive]

Jamie, thanks for the questions. We definitely saw stronger performance even than we were expecting across some of the Southeast Saskatchewan [ sea title] [indiscernible] connectivity and also particularly in the waiver unit from White Cap. So lots of good surprises and incremental activity.

[Marty Staples, executive]

In addition to that, we did see some of the top wells on our portfolio in the Charlie Lake -- of note, Archer, Tamarack Valley and Tourmaline continue to deliver some very strong results into the Charlie Lake, which has added to that lighter oil mix for us.

[James Kubik, analyst]

Okay. And maybe next question, you did note a decent carryout of drill but uncompleted wells on the natural gas side of the business. Can you just talk about how you expect that to phase over the second half of 2024 as those wells come on?

[Marty Staples, executive]

Yes. I think we've got a real great inventory of drilled uncompleted wells right now, and we saw that with the 15% of activity through Q2. We do anticipate that completions will happen into the latter part of this year. I think operators are doing a really good job of watching what gas price is doing and trying to put volume on when the price kind of demands it. And so we do anticipate that there is a demand situation setting up into the latter part of '24 into '25. And so we think operators are kind of following that.

Keep in mind, some of these pads are super pads they can take anywhere up to 3 months to complete. And so this isn't like just [ flipping a light slice, ] they do take time to get into completion.

[Operator]

[Operator Instructions] Our next question comes from the line of Patrick O'Rourke from ATB.

[Nolan Akins, analyst]

This is Nolan Akins stepping in for Patrick here. So my first question our liquids volumes in the quarter impressive ahead of the midpoint of your full year guide to liquids. You kind of touched on it a little bit, but maybe you can elaborate a little bit more. What's been the driver performance here? And based on what you know so far at this point in the year, what's your outlook for liquid volumes through the balance of the year?

[Cheree Stephenson, executive]

Yes. So the out performance is definitely impressed us. I know that some of the Clearwater volumes for Q1 were held back waiting for [ TMX ] to come on. So there is a bit of an excess that came through in Q2. In addition, I just think it's quick cycle time projects in response to strong WTI pricing. So we do have a range within our guide because we don't control the capital. So we estimate about 30% total liquids. We obviously saw that jump up in Q2, but we would estimate somewhere between around 30% for the whole year average, and we do expect the gas to kind of catch up in Q3, Q4 or so. I think our estimates range will be something we hold on.

[Nolan Akins, analyst]

Onto my second question, I guess I just want to say congratulations on both the dividend raise and the Musreau infrastructure deal, with White Cap. Can you kind of touch on this a little bit already as well? Maybe I can frame the question in a slightly different way. Can you walk us through the current pipeline that you're seeing for deal flow relative to the past and how things have kind of evolved in terms of both resource and infrastructure opportunities.

[Marty Staples, executive]

Yes. I think from '21 to kind of end of '22, it was the busiest we've ever seen. We're kind of looking at opportunities twice a week. That's obviously slowed down a little bit. What we witnessed, I think, over the last year is cost of capital is still tough to achieve. I mean, we think equity has been a little bit expensive for operators, debt with interest rates being higher, has been a more expensive cost of capital. And then -- from our standpoint, I think we offer another alternative.

We're still seeing a lot of inbounds on opportunities. I would say this year, we probably have looked at a dozen opportunities if you want to break that down into percentage 80% probably is related to royalty, other 20% would be infrastructure related. We've got to be pretty selective about which opportunities we want to pursue.

Obviously, I talked about this on the first question from Josef that we don't want to dilute our existing business. If something is out there that operator requires funding for, but we don't view it as the same tier, and I think we have a very great portfolio of Tier 1 assets, it's going to have to be at a discount, and there might be a better opportunity for these operators to go out and access debt or raise equity and not use our form of capital.

We continue to be very aggressive on pitching ideas and idea generation inside our organization. We've got a great BD team that's pretty much what they spend their weeks and evenings and weekends doing. So yes, I think from our side, we want to be reactive to opportunities in the market that be proactive on idea generation inside of the organization.

I do expect to the latter part of this year, there's still some consolidation we think that needs to happen in the basin. And where we can be helpful, we will try to be with operators. Our preference is to do repeat business with existing operators, I think having partnerships that do 1 to 3 to 6 deals shows the kind of virtuous cycle that we can create with partners inside our organization.

[Operator]

[Operator Instructions] There are no further questions at this time, I'd now like to turn the call back over to Mr. Staples for any final closing comments.

[Marty Staples, executive]

Yes. Thanks, everyone, for their support. And yes, hopefully, everybody gets a chance to enjoy the rest of the summer. We'll talk to you in Q3.

[Operator]

Thank you, sir. Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines. Have a lovely day.