Topaz Energy Corp

TSX:TPZ

Earnings Call Analysis

Topaz Energy Q3 Performance and Outlook

In Q3 2023, Topaz Energy achieved a new high in liquids royalty production at 5,700 barrels per day, with an average royalty production of 18,600 BOE per day, exceeding previous results despite wildfire challenges. This represents a 13% growth compared to the previous year. Revenue from royalty production was $67.6 million, with a 15% increase per BOE compared to the prior quarter. Topaz's infrastructure assets boasted 99% utilization and generated a 95% operating margin. Cash flow reached $74.7 million, with 60% distributed as dividends to shareholders. The outlook for Q4 estimates royalty production between 18,800 to 19,000 BOE per day. Preliminary 2024 guidance forecasts continued growth, with an average royalty production of 18,800 to 19,600 BOE per day and infrastructure income of $69 million to $71 million. They aim to end 2024 with a net debt of approximately $200 million.

Improved Production and Revenue in Q3

Topaz Energy Corp. marked another record in its third quarter, with average royalty production reaching 18,600 Barrels of Oil Equivalent (BOE) per day, a minor yet significant increase from the previous quarter despite wildfire-related disruptions. This uptick is part of a 13% year-over-year production growth, emphasizing the company's positive trajectory. Complementing the production growth is Topaz's revenue from royalty production, totaling $67.6 million for the quarter, bolstered by a 15% spike in total realized pricing to $39.61 per BOE, driven by higher commodity prices and improved heavy oil royalty pricing.

Operational Growth at No Extra Cost

Remarkably, the company's growth is fully ascribed to its operators' development activities, incurring no additional expenses for Topaz. Throughout the quarter, the company saw 160 wells spud across its diverse royalty acreage, contributing to a significant 34% production increase from 2022 in Topaz's prime areas. This exemplifies Topaz's leverage in driving growth through the strategic positioning of its assets.

Substantial Cash Flow and Dividend Increase

The third quarter saw Topaz rake in $74.7 million in cash flow, following which it returned 60% of this to its shareholders, indicative of a solid performance. The company takes pride in the increase of its quarterly dividend by 11%, reflecting its commitment to returning value to shareholders. Additionally, it has also achieved a notable reduction in its net debt by 17%, signaling strong financial health and strategic capital management.

Strategic Acquisitions and Capital Investments

Topaz continues to be proactive in pursuing strategic acquisitions, evidenced by a recent $26.3 million investment in new royalty and infrastructure assets in the Clearwater area. These acquisitions are poised to deliver $3.7 million in incremental infrastructure income once functional, further enhancing the company's income streams. Topaz's capital discipline also saw an allocation of $40 million from excess free cash flow to royalty, infrastructure, and water assets, underlining its commitment to growth-oriented investments.

2023 and Preliminary 2024 Guidance

Looking ahead, Topaz has maintained its 2023 royalty production guidance between 18,300 and 18,800 BOE per day. For the fourth quarter, they expect royalty production between 18,800 to 19,000 BOE per day and an infrastructure income between $17 million to $18 million. The preliminary 2024 guidance estimates an average royalty production ranging from 18,800 to 19,600 BOE per day, alongside an infrastructure income forecast of $69 million to $71 million. The company's long-term financial positioning is robust, with a projection to exit 2024 with approximately $200 million in net debt, equating to roughly 0.6 times net debt to EBITDA ratio, indicating a strong balance sheet and ample liquidity.

Earnings Call Transcript 2023-Q3

[Operator]

Good morning. My name is Mark, and I will be your conference operator today. At this time, I would like to welcome everyone to the Topaz Energy Corp. Third Quarter 2023 Results Conference Call. [Operator Instructions] I'll now hand the floor to Scott Kirker. Please begin.

[W. Kirker, executive]

Thank you, Mark, and good morning, everyone. Welcome to our discussion of Topaz Energy Corp.'s results as of September 30, 2023, and for the 3 and 9 months ended September 30, 2023 and [indiscernible]. My name is Scott Kirker, and I'm the General Counsel for Topaz.

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 Topaz Annual Information Form and the Topaz 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 Marty Staples, Topaz President and Chief Executive Officer; and Cheree Stephenson, Vice President, Finance and Chief Financial Officer. We will start by speaking to some of the highlights of the last quarter and the year so far. And after the remarks, we will be open for questions. Marty, Cheree, go ahead.

[Marty Staples, executive]

Thanks, Scott. Good morning, everyone, and happy Halloween. Topaz's third quarter average royalty production of 18,600 BOE per day includes another new record in total liquids royalty production of 5,700 barrels per day. Third quarter production was 145 BOE per day, higher than the prior quarter despite continued wildfire impacts that reduced production during the first half of the third quarter. Year-to-date 2023, average production of 18,600 BOE per day is just above the midpoint of our 2023 royalty production guidance of 18,300 to 18,800 BOE per day.

Average royalty production is 13% higher than the prior year comparative period. Notably, since the completion of the Delta Stream Royalty acquisition 1 year ago, Topaz's royalty production has increased 5% per basic and diluted share. The growth is entirely attributed to operator development at no cost to Topaz.

During the third quarter, 160 gross wells were spud across our royalty acreage diversified as follows: 68 Clearwater, 37 Northeast BC Montney, 30 Deep Basin, 16 Peace River, 3 Central Alberta and 6 Southeast Saskatchewan, Manitoba. In 2023, 430 gross wells were spud, a 5% increase from the prior year. 63% of the 430 gross wells spud were in the Clearwater and Northeast BC, Topaz's high-growth areas. Average 2023 royalty production from these combined areas has increased 34% since 2022. Topaz continues to see a reliable and meaningful share of WCSB production and drilling activity across its royalty portfolio.

The operator working interest production across Topaz's royalty acreage represented approximately 8% of total WCSB production and the 430 gross walls spud across Topaz's acreage represents approximately 13% of the total rig count across the WCSB. Based on planned operating drilling activity, Topaz expects that the current 26 to 28 active drilling rigs on its royalty acreage will be maintained through the fourth quarter. Our Q3 royalty production revenue of $67.6 million with 27% weighted towards natural gas royalty revenue and 73% of total liquids royalty revenue.

Topaz's royalty realized pricing before hedging was $2.53 per Mcf for natural gas, CAD 103.58 for light oil and CAD 89.78 for heavy oil. Relative to benchmark pricing, Topaz's realized pricing differentials for natural gas and light oil were consistent with the prior quarter. For heavy oil, our realized pricing differential for the Canadian WCS benchmark tightened 37% due to the revised pricing on certain heavy oil production.

And in addition, the WCS benchmark differential tightened from USD 15.07 to Q2 USD 12.91 in Q3. For the third quarter of 2023, Topaz's total realized pricing was $39.61 per BOE a 15% increase from the prior quarter attributed to both higher commodity pricing and revised heavy oil royalty pricing. Our infrastructure business continues to deliver stable inflation protected income. And through Q3, we realized 99% utilization of our natural gas processing capacity despite impacts related to wildfires during the first half of Q3.

Topaz generated $14.4 million in processing revenue and $3.8 million in other income from third parties. Topaz incurred $1 million in operating expenses, which is lower than the prior quarter when higher maintenance and turnaround expenses were incurred. Overall, our infrastructure assets generated a 95% operating margin in the third quarter. Topaz generated cash flow of $74.7 million or $0.52 per basic and diluted share in the third quarter and we distributed 60% of our cash flow to shareholders through a $0.31 per share quarterly dividend. Our dividend is well supported by our stable infrastructure income as it covers 40% of that. Using a current oil strip price forecast, our 2024 payout ratio would be just over 70%, even at $0 AECO. This demonstrates the flexibility Topaz to continue to reinvest excess free cash flow and continue to increase the dividend.

To date, in 2023, we generated $78.6 million of excess free cash flow, $40 million of which was invested in royalty and infrastructure and water assets in the Clearwater and Peace River areas, which generates just over $6 million per year in stable income. From Q3 of last year, Topaz's quarterly dividend has increased 11% and Topaz's reduced net debt by $76.7 million or 17%. We exited the third quarter of 2023 with $363.2 million of net debt and approximately $600 million of available credit capacity. Subsequent to the third quarter, Topaz entered into definitive agreements for an acquisition of a royalty and infrastructure assets from a Canadian energy producer in the Clearwater area. The royalty assets adding 20,000 gross acres in the West Nipisi area, were acquired October 25, 2023. The Marten Hills infrastructure assets are being built through 2024, and Topaz will acquire a 99% working interest upon completion and commissioning.

The total consideration of $26.3 million for the royalty and infrastructure assets is estimated to generate $3.7 million of incremental infrastructure income once completed, $0.5 million of incremental natural gas royalty reduction from existing royalty acreage and Topaz expects additional royalty revenue from the new GORR labs. The new royalty assets are supported by a capital commitment and development on the acreage is expected to commence during the fourth quarter. From a guidance perspective, we continue to maintain our 2023 royalty production estimate between 18,300 and 18,800 BOE per day. And for the fourth quarter, we estimate 18,800 to 19,000 BOE per day of royalty production and $17 million to $18 million of infrastructure income.

We've established a preliminary 2024 guidance estimate based on approximately 20 to 30 active rigs across our acreage through 2024, subject to key operators final 2024 operating budgets, capital budgets and operational ideas, weather or wildfire-related issues that may impact 2024 production. Topaz estimates 2024 average royalty production of 18,800 to 19,600 BOE per day in addition to $69 million to $71 million of infrastructure income. Based on current commodity pricing and before acquisition, Topaz expects to exit 2024 with net debt of approximately $200 million or around 0.6x net debt to EBITDA.

We look forward to discussing the fourth quarter on the next call, and we're pleased to answer any questions at this time.

[Operator]

[Operator Instructions] Our first question comes from the line of Luke Davis from RBC.

[Luke Davis, analyst]

I'm wondering if you can just frame up some of the modeling assumptions that go into your 2024 guidance fairly wide range there and understand that several producers don't have info. So maybe some conservatism built in, but what are the primary swing factors on that range?

[Cheree Stephenson, executive]

So I can kind of frame that out for you. So essentially, we wanted to set some parameters for the year as we see it from existing 5-year plans. And the real differentiator for Topaz has been that we have these strategic partnerships with certain operators. And so barring any material changes with their more granular 2024 budget, we do see this range as kind of maintaining a term line at about 3% year-over-year growth about 10% year-over-year growth in the Clearwater from our key operators, Tamarack and Headwater.

And then beyond that, we've never had 100% certainty over our noncore or fee-based acres. And so that can be a swing factor. It is only 10% of our portfolio within that non-core piece would be the waiver in asset, which we see as very reliable and flat production. So there's about 200 barrels for sure of swing factor in that non-core stuff that we don't want to rely on, but we've definitely seen very positive results through 2023.

So -- and the other thing to keep in mind is the impact of wildfires and what we saw happened through 2023. So the wider range is there to capture all of that. We do see the midpoint plus or minus that 200 barrels or upside of that 200 barrels from the non-core stuff being our ideal situation.

[Operator]

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

[James Kubik, analyst]

So we've seen some recent royalty acquisitions from Topaz that are mostly focused on oil and recognizing that the infrastructure acquisitions lately. been focused on natural gas. How are you thinking about natural gas weighted royalty acquisitions in the current commodity environment though? Can you outline opportunities for that and how you're thinking about it moving forward?

[Marty Staples, executive]

Yes. Jamie, thanks for the question. We always like to be countercyclical in our acquisitions. And so with our recent oil acquisitions, they were mainly undeveloped acreage. And so we do think there is an opportunity to acquire oil assets at a lower price because we weren't paying for [ PTP ]. From a gas perspective, we do continue to examine different natural gas areas where we can be useful. So I do think that if we're able to acquire natural gas at the right price, we would look to do that.

So we're not kind of, I guess, looking to add either, but we're open to the business on either one as well. And we did mention kind of we did some natural gas plant and pipeline acquisitions, we'll continue to do different acquisitions along that line. We're pretty open to -- for business on both oil and gas, and I think that's been very evident in the acquisitions we made over the last year.

And the other one I would include in that is the water acquisition we did early in January. So a 15-year take-or-pay contract, our second deal like that on water handling.

[James Kubik, analyst]

Okay. Great. And then maybe just to clarify on the West Nipisi 7% royalty. There's no current production attached to that assets. And given the size of the acreage, where do you think the potential royalty could move to in the coming years on that acquisition?

[Marty Staples, executive]

Yes. And so it is completely undeveloped at this point in time in that way. That's why it was important for us to add a capital commitment to it. And as I mentioned on the call, we're going to see some development start in the latter part of Q4 and into Q1. And so we do hope to see it well on. We really want to see the results of that first and second well before we comment on the absolute growing room of that, but we did map it pretty closely. This is something we identified early on once we found out who the owner was, we did approach them first to try and get a royalty on this acreage. And so I do think there's some qualities that we can map to some other of the high-quality plays inside the Clearwater.

[Operator]

Okay. There seems to be no further questions coming through at this time. So I'll hand the floor back to our speakers for the closing comments.

[Marty Staples, executive]

Thanks, everyone. Enjoy Halloween today, and we'll see you next quarter.

[Operator]

Thank you. This now concludes the conference. Thank you all very much for attending. You may now disconnect your lines.