Earnings Call: Q3 2020

Oct 27, 2020

Earnings release

Ladies and gentlemen, thank you for standing by, and welcome to the SperrySky Royalty Ltd. Announces their Third Quarter twenty twenty Financial Results Call. At this time, all participant lines are in a listen only mode. After the speakers' presentation, there will be a question and answer session. I would now like to hand the conference over to your speaker today, Andrew Phillips. Thank you. Please go ahead, sir. Thank you, and good morning, and thank you, everyone, for dialing into the PrairieSky Royalty Q3 twenty twenty earnings call. On the call with me from PrairieSky are Cam Procter, COO and Pam Cazal, CFO. I'll provide an operational update and then pass the call over to Pam to walk through the financials. During Q3, PrairieSky entered into 15 new leasing arrangements with 15 different counterparties, resulting in lease issuance bonus of $1,800,000 This was a significant improvement from the prior quarter as many industry participants turned their attention to future opportunities following spring breakup and easing of restrictions due to COVID-nineteen. Among the leasing transactions were for a Mannville resource base and a short term Duvernay lease. With leasing activity picking up across a number of plays and regions, we expect drilling activity to improve in 2021 provided commodity prices remain stable. On the M and A side, we bid on a number of small packages and one medium sized opportunity at returns exceeding our cost of capital. None of the bids were accepted. We were successful, however, in acquiring and canceling 4% of the outstanding shares of the company using excess cash flow and a modest amount of leverage that will be retired over the next three fiscal quarters. This provides us further flexibility to make acquisitions and or cancel additional shares below intrinsic value. Just over 5% of oil volumes are currently curtailed or remain shut in and will return as pricing improve and as curtailments were eased on Friday. Natural gas volumes remained stable. Recent results in the Duvernay and Clearwater plays both showed lower drilling and completion costs as well as stronger type curves. We expect our industry leading land position on both plays will provide shareholders with long term growth without capital or dilution. GSK maintained its focus on cost control through the quarter, a core pillar of our strategy since inception, with cash G and A totaling $3,500,000 or $2.03 per BOE. Compliance recoveries over the quarter totaled $1,000,000 Our accounting and royalty compliance groups have been extraordinarily busy over the past two fiscal quarters, focusing on collections as well as working closely with our land department, dealing with the high volume of requests for lease relaxations and production shut ins. Throughout Q3, our team worked diligently to lift these relaxations as pricing improved, which also resulted in several new leasing arrangements in order to reactivate existing oil and natural gas wells and return undeveloped zones to our leasing inventory, particularly those prospective for natural gas and NGLs. PrairieSky has a long duration unhedged natural gas royalty stream, is currently benefiting from strong regional pricing environment we have seen at AECO and Station two. As the pricing environment for natural gas has improved, many of our high gas to oil ratio plays have seen enhanced economics, which we expect to translate into more robust activity levels throughout the balance of 2020 and into 2021. PrairieSky continues to work with its industry partners to find efficiencies and highlight the world class ESG profile of Canada's energy industry. During 2020, an important milestone was achieved in Alberta by a private operator, which is now sequestering CO2 into a depleted oil unit in Central Alberta, which includes GreySky land. GreySky has a small royalty on this unit and has lands across Western Canada with analogous reservoirs. In addition to permanently sequestering greenhouse gases from industrial emitters across the province, the equivalent of taking it is the equivalent of taking over 300,000 cars off the road, and the previously stranded oil reserves will be produced at some of the lowest Scope one, two and three emissions in the world. This project is a great example of Canadian ESG leadership, ingenuity and collaboration across industries. As we look towards 2021, our organization is working hard on the third PrairieSky royalty playbook ahead of our Investor Day in May as well as our fourth annual ESG report. We expect both of these documents to highlight the unique attributes of our long duration, capital free, high margin business model, which was recently recognized by Sustainalytics as the number one ranked company in their oil and gas ESG rankings. I will now turn the call over to Pam to walk through the financials. Thank you, Andrew. Good morning, everyone. Before I get started, I will be including certain forward looking information in my remarks today. As such, I would refer all participants on this call to please reference the Forward Looking Information section of our MD and A as at 09/30/2020, as well as the press release issued on 10/26/2020. Funds from operations totaled $37,900,000 or $0.16 per share in the quarter, generated primarily from royalty production revenue of $38,400,000 on production volumes of 18,745 BOE per day. Overall production volumes were up modestly from Q2 twenty twenty as increases in oil production volumes were offset by decreases in natural gas and NGL. We saw increased activity in Western Canada during the quarter as compared to Q2 and on PrairieSky lands where we had 44 wells spud. These wells were primarily oil wells in the Viking and the Clearwater. Oil royalty production volumes totaled 6,572 barrels per day, a 9% increase from Q2 as third party operators started to bring on previously shut in production throughout the quarter. Natural gas volumes totaled $58,200,000 a day in the quarter and were down due to declines and reduced solution gas volumes from shut in oil production. Natural gas royalty revenues totaled $8,700,000 up 14% from Q2 due to strong AECO pricing. NGL volumes generated an additional $4,900,000 in product revenue, up 20% from Q2 due to improved benchmark pricing. During Q3, price size production volumes included seven eighty BOE a day of prior period adjustments, which were 27% liquids and included three seventy one BOE a day from compliance activities and an additional four zero nine BOE a day of other prior period adjustments related to new wells on stream and better well performance. The compliance group continues to recover missed and incorrect royalties through forensic accounting, collecting $1,000,000 in the quarter. PrairieSky generated $5,100,000 in other revenue comprised of $1,200,000 in lease rentals, 2,100,000.0 in other income and $1,800,000 in bonus consideration on entering into 15 leasing arrangements with 15 different counterparties. PrairieSky is a high margin, low cost business model. Total cash expenses during the quarter were $5,600,000 on $43,500,000 of revenue, resulting in an 87% cash operating margin. Cash expenses included income taxes of $1,100,000 and cash administrative expenses of $3,500,000 or $2.03 per BOE. Looking forward, we expect cash administrative expense per BOE to be well below $3 for 2020. During Q3 twenty twenty, PrairieSky declared dividends of $06 per share or $13,400,000 resulting in a 35% payout ratio. Under the NCIB, we repurchased and canceled 8,900,000.0 common shares for $81,800,000 in the quarter. At September 30, PrairieSky had a working capital deficit of $66,200,000 including bank debt of $67,000,000 which we expect to repay in less than nine months. Since IPO, PrairieSky has generated $1,400,000,000 in funds from operations, of which we have returned 96% or over $1,300,000,000 to shareholders in the form of dividends and share repurchases. This equates to returning over 65% of our current market capitalization to shareholders in just over six years. We will now turn it over to the moderator to proceed with the Q and A. And thank you. One moment for questions. And, again, ladies and gentlemen, if you'd like to ask a question, that is star one. And our first question comes from Mike Dunn from Stifel. Your line is now open. Oh, thank you. Good morning, everyone. I just wondered I know, obviously, you folks don't give guidance. Historically, Q3 is a busy drilling period on your lands, particularly in the Viking, and you see a bump in volumes in Q4 with all the puts and takes of, I guess, curtailments and voluntary or otherwise. And just wondering if you can talk to what you think Q4 might be shaping up for you guys on the oil side or total BOEs, maybe just in general terms relative to Q3? Sure, Mike. Yes. No, thank you for the question. And no, we don't give guidance, of course. But just directionally, we do obviously still have some curtailed and shut in oil volumes, which had been coming back at the back half of Q3. So those would represent a full quarter in Q4 as well as some of the ones that come back on as well, obviously, not a very active Viking quarter like we typically have in Q3. But there was some activity that will translate into some volumes trickling into Q4. I guess probably the most impactful one would be the most efficient play on our lands, which was we had two rigs running through the back half of Q3 on the Clearwater play. It's our most capital efficient play per dollar spend, it's the most capital efficient play we have in the business, and it also has the lowest pace decline. So speaking of Q4, again, we do expect some growth on the oil volume side, and then the gas should remain fairly stable. But we don't again give exact numbers on that. And then into 2021, we do have some more active drilling programs that are starting to be shown to us from industry. So I think we should see an improvement in 2021 in terms of activity. And of course, the last piece I'll talk about is, obviously, our business is based on two things, and the sustainability of it is the declines and then the capital spend. So just one comment on the declines. Our declines have gone down from on the oil side in the high 20s to the low 20s or in the range of 20%, and gas is in the mid to low teens. So because of our lower base declines as a company, we have less capital required to keep those production volumes flat. And then the last piece to that is the people who are drilling right now are the most typically drilling their best prospects and the most capital efficient producers with the best, opportunity set. So, the capital we are seeing spent is very efficient. So it should require less capital to maintain production or potentially grow production in the future. So hopefully, that answers your question. Thanks, Andrew. Yes, that helps. That's all for me. Thank you. Our next question comes from Mark McLennan from Alberta Energy. Your line is now open. Hi there. If you could provide any color around the use of bank debt to fund the NCIB. Is that something you can see yourself doing more in the future? Or is this more of just taking advantage of one time dislocations? Yes. That's a good question, Mark. And I think the NCIB has also always been kind of a pillar of our return strategy to shareholders. And we're an interesting business because we generate a lot of cash and we don't spend any. So in order to return to shareholders, we have three ways. One is through acquisitions number two is through, obviously, dividends, in which we paid in the range of $1,200,000,000 in dividends and the third is through buybacks. And just given where our shares trade, which we think is way below the intrinsic value of the business, it's a great way, we think, to enhance the compounding potential of this business. We're currently an 8% free cash flow yield. And we think we have a terminal growth rate somewhere in the range of 3% to 5% over the long term. So we just think it's a great way to take advantage, obviously, of this dislocation in price versus intrinsic value. But also, over the long term, it is a way to return capital to shareholders. It's not just something we do for a short period of time. It's been something we've been doing for years. I agree. Thanks so much. Have a good day. You. I'm showing no further questions. I would now like to turn the call back over to Andrew Phillips for further remarks. Thank you, everyone, for taking the time to dial into our call, and have a great day. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.