Q3 2020 ARC Resources Ltd Earnings Call

Good morning, My name is colon and I'll be your conference operator today at this time I would like to welcome everyone to the Ark Resources Limited Q3, 2020 earnings and 2021 budget conference call. All lines have been placed on mute to prevent any background noise. After the speakers remarks, there will be.

A question and answer session. If you would like to ask a question. During this time simply press star.

By one on your telephone keypad, if youd like to withdraw your question. Please press star followed by two thank you I would now like to turn the conference over to Chris Bibby. Please go ahead.

Thank you Carlos and thank you all for joining arc resources third quarter 2020 earnings and 2021 budget calls.

Today's remarks are intended to add color to arcs quarter end results as well as outlook on the business on.

On the call today, with ARX, President and Chief Executive Officer, Terry Anderson.

Vice President of development and planning Lira, Conrad Arts, Vice President of operations arm in January and.

And myself, Chris maybe senior Vice President and Chief Financial Officer.

Following a few brief remarks from Terry we will open the line to questions.

During this conference call statements made by the company are subject forward looking information and statements included in the news release yesterday afternoon, and those comments in our corporate presentation, which are available on our website now with all that exciting done I will pass the call over to Terry.

Thanks, Chris and thank you everyone for joining us. This morning, I'll first start off with a quick review of our third quarter 2020 financial and operational results and will then discuss our plans for the balance of 2020 and 2021.

2020 has been a challenging year to say the least <unk>.

The impacts from the covert pandemic have been profound not only in our daily lives, but also in commodity prices and ARX business. Fortunately arts proven history of financial discipline and prudent capital allocation have Seth our company on the path to recovery much quicker than some of our peers.

This year, we have taken the time to focus development activities in the areas of our portfolio that generate the best returns. While also ensuring that we are controlling the controllables that her business.

What is <unk>, which has resulted in robust financial and operational results. During these first three quarters of the year setting the stage for a strong exit to 2020 and even a stronger 2021.

Personally I'm so proud that our employees have remained safe this year with our employees, having now worked six and a half years without a lost time incident. Our operational performance has also been exceptional.

Our third quarter production of 158000 400 billion a day was higher than expected as our field staff did a great job of turning around a major facility F. Park on tower ahead of schedule our year to date production of 158900 BOE per day is above our guidance for the year. So we.

We've adjusted our for full year production expectations up by 4% to the top end of our guidance range now sits at 160000 Boe per day.

Our field employees continue to efficiently manage our operations and cost structure with year to date operating expenses up less than $4 per be elite, which are well below our guidance range. So to better reflect our expectations for the year Weve adjusted our guidance down by about 15% to a range of $4 per deal.

To $4.20 per B. Riley.

Our capital investments in the second half of 2020 have been focused on our natural gas development at Dawson, Sunrise, which 53 million of capital invested during the third quarter of 2020.

The natural gas markets are structurally improving so we've chosen to accelerate 50 million of capital from 2021 into the fourth quarter of 2020. This will allow us to maximize throughput of our low cost natural gas production during 2021 to capitalize on that anticipated strength in natural gas pricing.

It's accelerated capital will also ensure efficient in continuous drilling operations at Sunrise and Dawson.

He be clear, though the $50 million accelerated capital is not additive to our EPS capital development plans for 2020, and 2021, which when combined will range from 725 million to 775 million over the two year period. This truly is a pure acceleration from one year to the next.

Arc is in an enviable financial position in the third quarter 2020, we generated $71 million a free cash flow, which was used to strengthen our balance sheet in a meaningful way.

We've reduced our net debt by 10% since June Thirtyth and 20% since March 31st based on the current outlook on commodity prices, we expect to exit 2020 at approximately 1.2 times debt to cash flow we.

We continue to pay a meaningful and sustainable dividend to our shareholders with a total payout to shareholders, a $6.7 billion or $34 and.

81 cents per share over the last 24 years. This has been a centerpiece of ARX value proposition to our shareholders. So that's a quick look at the Q3 results now looking ahead to 2021 arch capital budget of 375 million to 425 million is the best Moneymaking.

By just the company has put together in the last several years.

On a 2017 to 2020 ARCC invested significant capital to build out our productive capacity at Dawson tree at Sunrise too and then most recently Dawson for earlier this year.

These three facilities collectively added 360 million cubic feet per day of natural gas processing capacity and 15000 barrels per day of liquids handling capacity now that these investments are behind us we look forward to demonstrating how efficient our expanded montney business has become 80.

Percent of the 2021 budget will be focused on profitable how cycle investments to sustain production at our core Montney properties.

We expect to deliver production between 168000 Boe per day.

165000 Boe per day at an average capital efficiency of approximately $7500 per flowing barrel.

Included in our 2021 capital plans are to minor infrastructure optimization projects at Sunrise and parkland, both of which are incredibly robust economics.

These two projects will collectively add over 40 million cubic feet per day of natural gas processing capacity projects. Like these are the strategic advantage of arc owning and operating its infrastructure, we get to reap all the benefits of these robust optimization projects.

Well also advance or E.S.G. leadership by investing $7 million to help reduce the company's carbon emissions, which will help arc meet its air air emissions reduction targets over the next several years.

Considering these plans are 2021 budget is expected to deliver significant free cash flow. So that's after capital investments and dividends similar to 2020 free cash flow will continue to be directed at strengthening our top cortile balance sheet, which we believe could drop below the low end of our target range of.

One to 1.5 times debt to cash flow during the year. So the 2021 budget is very robust and exciting.

So commodity prices volatility is expected to persist in the near term as the global economy continues to navigate the co that pandemic.

At arc, we are focusing our business activities on low cost natural gas development in anticipation of strong natural gas pricing for the foreseeable future. We are uniquely positioned to profitably sustain our business engine generates significant free cash flow next year, while managing a best in class a balance sheet.

Paying a meaningful and sustainable dividend, our financial flexibility prison for presents tremendous optionality and flexibility from a capital allocation perspective, and with a strategy that is founded on strong business fundamentals, we believe that the outlook for arc is very compelling.

And finally I'd like to thank ARX employees for prudently managing our business through these challenging times and for delivering strong results also thank you to our shareholders for supporting our business plan today and in the future.

Chris.

Thanks, Jerry for those opening remarks before.

Before handing the call back over to the operator for questions I think it might be worth touching on a few items that have been very topical recent discussions with the analyst community and investors.

One items around further improvements in our drilling and completion cost and whether there's an opportunity further reduce these costs compared to our results to date and specifically what is driving these reductions are.

Herman why don't you give us an update on where we have come from and where we're headed on this front.

Sure, Chris we're expecting 2021 to be one of our best years in terms of capital cost performance.

Relative to say 19, you're budgeting, 25% reduction.

Hi, Michelle.

Construction costs.

Lateral.

This number is a weighted average of 69 wells that we have planned for 2021.

The improvement is driven by three factors design optimization teams achievements and improving the efficiency of execution.

Action in cost of services.

In terms of design optimization via drilling longer wells, which helps reduce our unit cost.

It's a fine tuned our competitions design in terms of sand and refreshing intensity based on the learnings you have from the past couple of years.

Our drilling and completion teams continue to improve their efficiency and execution by drilling and completing wells in record times and finally, we have also seen about 5% to 10% reduction in cost of services.

Percentage of our budget.

Thanks, Jeremy.

Some great stuff there for sure pretty happy to hear that.

Continuing on that theme the cost side of the equations, obviously critical but but equally as critical in our business is the capital efficiency. The results from these expenditures there can you walk us through our learnings and results on the capital efficiency side. Both in terms of what we've done so far this year as well as how do we plan to achieve that previously mentioned $7500 per flowing.

Total capital efficiency and 2021.

Chris I would love to a capital efficiency continues to be electric arc, you focus on and that is a great indicator of profitability.

Our capital efficiency leads the Canadian piece sector. The wells, we brought on production between July of 2019 and June of 2020 delivered an average capital efficiency of 7400 per BOE per day. This has been achieved your continuous improvements in our well intact designs as well as in our execution performance.

On the design side, we ever find the landing zone for wealth and some benches, we have widened our inter well spacing all tightening the inter frac spacing to capture the same reserves that with less well.

And we have revisited our completion designs to ensure that we've optimized our sand placement to maximize productivity per ton pumped.

We've also increased our lateral lengths, thereby directing a higher percentage of our capital investment to deliver cash flow.

Before making any changes to our well design our teams perform reservoir modeling they analyze analogous wealth and they're also including data analytics workflows to be able to look at a wider suite of data and dig deeper into your interaction of multiple parameters well. These ongoing optimization I have confidence in our multi disciplinary teams ability.

To continue to drive improvements to our business and that therefore, we will achieve the capital efficiency of 7500.

A day and 2021.

Thanks Art sitting talk for sure.

Finally, I think the topic that Weve spent a significant amount of time discussing with many people, including a lot on on the line right now the state of the North American natural gas market and our outlook for 2021 and beyond I'll take a stab at this one so it shouldn't be a surprise to anyone listening to the call on natural gas markets for a significant improvement.

Past 18 months, we expect this we expected this to happen and expect them to remain strong going forward the driving forces behind the strength in the natural gas markets are both on supply and the demand side.

Basically we have a situation where on the supply side natural gas supply is not growing it's not expected to be growing and expected to be down significantly year over year across all of North America.

Largely due to a couple of things lack of investment and also the loss associated gas reduced crude oil pricing.

We've been experiencing.

On the demand in the dress side locally we've been expanding this part of the equation, which has resulted in continued build out of the natural gas exports system and continued conversion from coal to gas on the power side, So effectively you've got an equation where.

You've got flat to reduce supply into an increasing demand and eager situation that will see natural gas continue to have strength for 2021, and very importantly, continuing out after 2021.

With those topics at least briefly addressed I'd like to hand back to calling a for the Q and a portion of the call. Please.

Thank you ladies and gentlemen, we will now begin the question and answer session should you have a question. Please press star followed by one on your Touchtone phone, you'll hear a three tone prop acknowledging your request and your questions will be pulled in the order. They are received should you wish to decline from the polling process. Please press star.

Fall by two if you are using a speaker phone. Please lift the handset before pressing any keys one moment for your first question.

Okay. So your first question comes from Michael Harvey from RBC Capital markets. Michael. Please go ahead.

Sure. Good morning, everybody. So just a couple of questions on the attached West project I guess, the first one would be as you think about like 2021 and into 22.

Has your thinking changed at all as far as how well attached you rank some of the portfolio if that was attached to still head and shoulders number one.

I'm sure that that gas versus liquids conversation comes up pretty regularly in the boardroom.

I guess also on that topic can you just remind us about how you're thinking about the size of that potential project I know the numbers have bounced around a bit you've kind of thought about making it meaningfully larger than the original plan.

If you could just refresh us on some capital and production guide posts on that one.

Yeah. Thanks, Michael answer the question. Good question its Terry here, so definitely attached to your ranks a into number one for us from her next a development opportunity. Obviously, it has a more higher rating or ranking as our liquids and gas compared to like a dawson it's closer to that 60.

Percent liquids versus Dawson has more than 20% so.

So we're excited where we've advanced a attach he and we've confirmed.

Confirmed I guess is from our most recent wells the well design is we're confident on full scale development that we have that optimize well design, which helps lead into that facility capacity and gives us that confidence on the size. Yeah. We've been looking at a couple of sizes as we've talked about start.

With 60 million cubic feet a day a gas plant in the liquids on top of that or 90, I would say at the moment were still.

Evaluating that and looking at the benefits of both of those but for the size of resource going bigger probably makes sense for us and I think the way the year is shaping out and the strength in our business with our debt to cash flow coming down quicker than what you were originally expected.

Strong free cash flow, we see a line of sight to being able to support this development and we're still thinking that is probably later in the year next year, but a year from this time that we look at sanctioning that's a project that way at that time, our debt to cash flow is going to be closer to that.

One times that we talked about we want to get to before we advance Hitachi and we're also looking for little stability in the oil price and having with the second wave of coal gotten all the uncertainty out there.

It'd be nice to have some more stability on the direction of that oil pricing. So that's kind of how we're thinking of it but definitely it is right up there are some of the best wells that we've ever seen in the company. So we're still excited about attaching.

Got it and do you have any any I'm just kind of broad capital numbers I know your costs have come down on a bunch of stuff.

In terms of what it would cost for the initial facility build plus the initial batch of wells or is it kind of too early to really lever a more formal number out there.

Well and we're still tweaking all of those details originally were talking of $500 million for the original plan sizes 60 million now is for the wells the facilities the pipelines, but we've made a lot of that headwind inefficiency of the design and that cost is coming down like.

Said, we're looking at the bigger facility. So it's too early to put out a number on the on the larger facility.

Got it thanks to the color and all that.

You're welcome Thanks for the question.

Your next question comes from Amir <unk> Reef of Cormark Securities Mirror. Please go ahead.

Thanks. Good morning, guys. Just a quick question on Sunrise I understand you did some smaller expansions, but at what point just given the economics of the would it make sense to potentially do another 60 million a day plant or another larger size expansion.

Well, so yeah I first step here is optimizing what we have and that's where that's 40 million cubic feet. A day, we're only spending $10 million roughly to deliver 40 million cubic feet, a day, which is exceptional a robust economics and that's why we talk about to own.

<unk> operating our infrastructure.

As for our next expansion a weak way we've been looking at it in obviously everyone's probably looking at natural gas pricing going okay, now when he and Sunrise again, but.

But we truly are wanting to have a more balance in our commodity mix and that's why we like a catchy that 60% on the liquid side. If we went to expansion Oh sunrise or they probably go bigger and then the 60, it's such a great assets in that opportunity.

He there that we think is a exceptional or even for that area that rocks right now we're thinking more that growing more the liquids and have more balance in our portfolio and a will still look at optimizing everywhere on our gas side of the business right now, but no major expansion plans for Sunrise.

Okay sounds good and then just a second quick question just on the capital spending guidance range. At 375 425 is there is there any guide post for what would bring you down to low rent versus high rent or is that just normal variance around to 410 midpoint that you're showing in your lease.

Yeah, I mean, its Chris here I think you know what we're really just trying to do is put some flexibility in there I mean, it could be that if we have some additional cost savings that could drag us down to the to the lower side. It does give us the flexibility to maybe out of PADD later in the year as well, but as you picked up you know the pinpoint guidance is for 10. So it is just meant to provide some flexibility on how the.

Here is going to play out.

Okay sounds great. Thanks.

Your next question comes from Jamie cubic from C.I.B.C., Jamie. Please go ahead.

Good morning, Thanks, guys arc included a number of comments around its capital allocation priorities. When you get towards the low end of the targeted range of 1.0 to 1.5 times debt to cash flow.

I mean, we've seen a bunch of M&A take hold on a on the U.S. and border and sum up in China as well can can you talk about how you're weighing me M&A market versus some of the other allocation opportunities that you laid out here.

Thanks, Jamie and.

Good question in today's environment of M&A. So we we continue to look at all the M&A opportunities that we think are relevant for our company out there and we keep coming back to the fact that we have great assets to develop and so when we're looking at opportunities we want to make sure that those assets.

As far as good or better than what we currently have her or we have a tough time or buying lesser quality assets, we want to try to be improving and growing the profitability of the company by doing an acquisition. So lots of nothing sticking criteria for us for sure, but we are I guess.

Finally, looking at those opportunities out there to see if there's something that makes more sense. A then actually or adds onto I guess, a the development of our existing asset base, but we haven't been able to I guess, that's fine that a key opportunity at the moment doesn't mean that it's not.

Out there, we just need to continue to work hard and in looking at that.

But on the whole capital allocation and to your point, we were going to focus on making sure we bring that debt down to that one times range continue paying that dividend and we still believe in investing organically in our business when the commodity prices are constructive and stable to do so.

So, but oh, we do have a lot of flexibility and Optionality. When you have a significant free cash. So we can look at the other means like them and you talked about or share buybacks or a combination of a number of these is that something that would be another avenue to look at having a more balanced approach.

And managing that risk and reduced the volatility in the return to shareholders by having a more balanced approach to that so that's kind of a little more add on in the M&A, but how were looking at the capital allocation Jamie.

Okay. That's it for me guys. Thank you.

Thanks.

Ladies and gentlemen, as a reminder, should you have a question. Please press star followed by one.

Okay. So what it appears there are no further questions. Please proceed.

Thanks, Colin So this concludes our third quarter 2020 earnings and 2021 budget call. If you do have any additional questions. Please feel free to follow up with you other with myself or any member of our Investor Relations team I'd like to thank everyone for their participation and for following arc every day everyone.

Ladies and gentlemen, this concludes your conference call for today, we thank you for participating and ask that you. Please disconnect your lines.

[noise] [noise] [noise] very welcome.