Q1 2022 Freehold Royalties Ltd Earnings Call

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This conference is being recorded so it's going to stay home if they don't have as you see.

All participants please standby your conference is now ready to begin <unk>.

Good morning, ladies and gentlemen, and welcome to the first quarter results Conference call.

I would like to turn the meeting over to Mr. David Spyker.

Please go ahead.

Good morning, everyone and thank you for joining us today.

After a busy 2021, we see significant opportunities ahead of us to continue to build our company through strategic acquisition work and third party drilling activity on our lands.

Joining me on the call. This morning are Dave Hendry, our CFO and Rob <unk>, our VP of business development.

Approximately 18 months after freehold initial large scale expansion in the U S. The company continues to execute its north American strategy, providing shareholders a sustainable dividend.

Low leverage and diversification to royalty payers operating and core oil and gas plays throughout North America.

Through the efforts of our team we are a bigger better company and we will continue to showcase this moving forward.

Key highlights for the quarter included.

Bigger and better results in our second consecutive quarter of record funds from operations of $72 million or <unk> 48 per share.

This was driven by production of 13676 BOE a day and the continued strength in commodity prices.

Drilling activity remained strong on our lands with 244 gross wells drilled.

And this is approximately the same number of wells drilled in the previous quarter.

132% higher than Q1 of last year.

Our asset base is very well positioned in the most actively drilled plays across North America and is being developed by top tier operators.

The ramp up over the past few quarters in Canadian drilling activity is already showing up in our quarterly results.

In the U S. These strong activity levels will show up as production in Q2 and beyond as the cycle time to go from a permit or well license to production is typically nine months in the U S as compared to three months in Canada.

Our Canadian production was down approximately 1% quarter over quarter and this was driven by cold weather impacts that started late last year and continued into mid February .

March production is fully recovered.

We averaged nine drilling rigs on our lands in Q1 drilling a total of 144 wells with primary targets being the Viking Clearwater, Cardium and light oil in southeast Saskatchewan.

Our U S production was down 5% quarter over quarter, primarily driven by the timing of bringing new wells on stream.

The asset overall continues to be very well supported by drilling activity with 17 rigs active primarily on our core Permian and Eagle Ford land base.

After increasing our dividend every quarter in 2021, we're maintaining our monthly payout at eight cents a share.

Current dividend levels imply approximately a 55% payout ratio for 2022 under our current commodity price and production assumptions with the expectation to review dividend levels again as part of our Q2 2022 results in August .

Given the suite of opportunities, we see to reinvest in royalties on both sides of the border. We are preserving dry powder to pursue acquisitions. We currently believe this is the best return for our shareholders as we see a number of high quality opportunities to continue to enhance our underlying royalty portfolio.

Subsequent to quarter end, we entered into a definitive agreement to acquire mineral title and overriding royalty interests across approximately 1100 net royalty acres, which equates to about 220000 gross acres in our core Midland basin of the Permian for U S $15.

$5 million.

This is a tuck in to our Permian royalty lands that were acquired in October of last year.

Leasing activity in both Canada, and the U S continues to strengthen with bonus and rental considerations approaching $1 million in the corner.

Yeah.

I will now pass the call to Dave Hendry to walk through some of the financial highlights.

Thanks, Dave and good morning, everyone as commodity prices improved over the quarter freehold continued to deliver on the core financial aspects of its return proposition, providing a meaningful dividend, while also providing investors with a lower risk investment.

Differentiating the company from traditional oil and gas E&P companies.

For the second straight quarter, we delivered record funds from operations generating $72 million over the quarter or 48 per share. This represented a 122% improvement versus the same period in 2021, and a 5% gain versus the previous.

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Continued strength in commodity prices, including the premium prices freehold received for our U S volumes drove much of the outperformance.

Freehold average realized U S crude oil price was $119 per barrel during Q1 2022 eight.

80% versus the same period in 2021 well.

Freehold average realized natural gas price was $6 54 per Mcf up 106% versus the same period in 2021.

In Canada.

<unk> average realized crude oil price was $104 per barrel during Q1, 2022 up 79% versus the same period in 2021.

Freehold realized natural gas price of $4.20 per <unk>.

MTF in Canada for the first quarter up 65% versus the same period in 2021.

Freehold dividend payout totaled 38% for Q1 2022 versus 24% in Q1, 2021, which reflected two months of Q1 2022 dividend paid at <unk> <unk> per share prior to march's increase as previously met.

And we are maintaining our monthly dividend at <unk> per share, reflecting what we see as a balance between managing our financial leverage and portfolio reinvestment in a volatile commodity price environment.

For Q1, 2022 cash cost totaled $3 70 per barrel equivalent down from $4 37 per BOE in Q1, 2021 due to stronger production volumes freehold has cost effectively integrated our U S acquisitions into the company's off.

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In Q1, 2022 Freehold reported current income tax expenses in Canada, and the U S of $6 $4 million and $2 $6 million, respectively, driven by stronger commodity prices and increased production volumes. This represent the <unk>.

First quarter of material current income tax expense since 2014.

Given freehold to current tax pool inventory.

Current tax rates realized in Q1 2022 as a percentage of funds from operations can be used to estimate cash taxes for the remainder of the year.

Net debt totaled $63 million at quarter end, representing 0.3 times net debt to 12 month trailing funds from operations overall.

Overall freehold net debt decreased by $39 million versus Q4 of 2021. The decrease in net debt reflected stronger funds from operations relative to dividend commitments freehold prudent strategy of maintaining net debt to funds flow well below one.

Five times alongside a longer term dividend payout targets, starting at 60% of funds from operations provides protection to the business from commodity price volatility, while maintaining capacity to continue to grow through strategic and disciplined acquisition work.

Now back to David for his final remarks.

Thanks, Dave So we remain enthusiastic going forward as the prospects to continue to grow our business are robust.

There's been a steady training up of capital spending on our royalty lands, both in Canada and the U S.

Our high margins offer significant option value to provide returns to our shareholders.

We will continue to pay down debt to maintain maximum balance sheet flexibility to support our M&A ambitions, we're continuing our measured pace I'm moving our dividend toward a 60% payout ratio and we see tremendous opportunity set in front of us to continue with disciplined value enhancing acquisition work.

So thank you and we'll now take questions.

[laughter].

Thank you.

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Yeah.

The first question is from Luke Davis from RBC. Please go ahead. Your line is open.

Okay. Thanks, and good morning, guys. Just wondering if you can elaborate a little bit on timing issues in the U S.

Where volumes kind of tracking now and how should we think about that for the balance of the year.

Yeah, so in the U S.

Timing perspective, yeah, we see that the drill.

Drilling activity that strong drilling activity translating into volumes and in the latter part of Q2.

Into the second half of 2022 and.

And so are we still expecting.

Growth on the on the U S assets, you know throughout the year to be in that 15% to 20% a range from Q1 to exit of this year and again that's a.

Based on the drilling inventory that we have based on the the ducks and permits that we see in front of US right now and as always convert a over the coming months into Windsor Wells got that Rob here and he can probably give you a little bit of color on what we're seeing right now for for docking permit count and I think that would help give you.

Some perspective Luke.

Thanks, Jay I look so maybe put a bit of context around you know about how many net wells we were looking to need to maintain our production in the U S. On a flat basis and its about two net wells plus or minus a quarter of that well you know there's a lot of assumptions that go into that.

Two number but that's about what a good number to use and we look at how many drilled but uncompleted wells we have on our assets at the end of the quarter. It was about one five net wells that were Ducks and then we also on top of that had about one seven net wells that were permits so.

It kind of both of those combined are both 3.1, what we call net activity wells and better context on the on those on those docs, we see those being turned in line into production somewhere on the average it could be zero months it could be on average in the U S. We've seen.

Post COVID-19, both five months, so that's sort of the timeframe on the docks into the permits.

Those you can probably use somewhere in a six to 18 month time period, those permits get get drilled and then also get get completed and brought on production.

That's a that's helpful. So maybe within your guidance, how do you split, Canada, and and U S volumes and then heavy tweaks that at all just given the slower start.

Yeah, we haven't split our Canada and U S and our guidance and you know based on the modeling that we're doing the guidance is.

It is still a appropriate given where we are in Q1, and where we see the the portfolio around continuing to ramp up through the year.

Alright, it makes sense.

On M&A another tuck in post quarter I was wondering if you can give us some details on kind of what sort of opportunities youre seeing in the market and whereby valuations are sitting now kind of how they've moved in and maybe just break that down a little bit between Canada and the U S D kit.

Sure Yeah, maybe touching on the tuck in acquisition. There just briefly first you know that was $15 5 million.

In the Midland in the Midland Basin.

Key key operators, there too and the public with pioneer and Serge to on the private with Endeavour and Oh.

Sorry pioneer in S. S M and then our privates endeavor in search and.

And it's on that transaction it was about <unk>.

My teams on both the IRR as well as on our other cash flow near term cash flow yield basis using strip prices back in the early March time frame.

So that's the that's kind of gives you a bit of a direction in terms of where we're seeing you know the acquisition prices stacking up.

In terms of activity just to give some numbers on what opportunities came across our desk in both U S and Canada. This quarter, Yeah, we had about $2 $5 billion of opportunities that came across our desk across 30 30 deals.

80% of that was U S, 20%, Canada in terms of what we actually evaluated that fit our acquisition criteria that was about 15 transactions. So we sort of eliminated half right away. It was just over 2 billion of of opportunities in terms of what we actually bid on is a much smaller number.

From that top 15 that we actually evaluated we bid on three opportunities and were successful on the won a tuck in deal.

In terms of forward expectations, there's a lot of there's a lot of opportunities that continue to be in the market and in sort of in in particular on the on the U S side. This high continued constructive commodity pricing has really brought forward a number of sellers.

Were they all across the size spectrum to be honest.

Okay. That's helpful and maybe a final one for me just wondering how youre thinking about hedging in the context of M&A I know you guys haven't done it historically, but just given how much volatility we've seen in pricing or.

Are you considering or have you considered just a hedging out any acquisitions going forward just to sort of lock in your turns in returns and kind of set that base.

Hi, Larry it's Dave Hendry here well every quarter are we do look at dividends from a context, but you know for us considering our cash flow profile and our current debt leverage that it's not something which really fits within our strategy as far as sort of applying a hedge to.

To a particular transaction.

We would absolutely look at it but it would depend on the merits of the transaction and do we feel that important enough to actually lock in for a deal like the one we just closed on the smaller side.

<unk> put in a hedged position for it it would have to be an acquisition that's meaningful that we needed the surety of the cash flows.

Great. That's all been Super helpful. Thanks, guys.

Thanks, Doug.

Thank you.

Once again, please press star one on the devices keep hard if you have a question. Please.

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We have another question now from Jamie Kubik from CIBC. Please go ahead. Your line is open.

Yeah, Good morning, and thanks for taking my question, just expanding a little bit on <unk>.

<unk> question with respect to the U S.

A fair bit about timing issues.

On on this asset can you talk a bit about where production is trended versus your original expectations and.

I guess, what gives you comfort that the timing issues will get resolved.

Resolved.

In future quarters here yeah.

Yeah.

Maybe what gives us comfort on on the activity as we as we look into 2022, just a bit a bit more context around those docs and net permits numbers that I was mentioning to look you know that's one four net docs that actually is up 20% quarter over quarter. So we.

Added 20% to the DUC inventory between Q4, and Q1 and so while that has an impact on that did have an impact on on Q1 production.

It gives us that gives us confidence that over the next six months that sort of the average timeframe in the basins that we care about in the U S where.

Wells have been completed and brought online that we'll see that that production being added to our to our asset base and then what gives us the confidence sort of beyond those six month timeframe is on those on those permits and what we've again observed in the U S is between again on the <unk>.

Assets that we care about.

You can call it about three to four months between when a permit as it's applied for and a well is drilled and then it's another five to six months from when the wireless is a spud to when its completed and brought online. So those net active those those those permits you know give us confidence in the six to 18 month time for.

Frame in terms of where where that production will come on line and put some context around the on the increase and the permits that there's also a 17% increase quarter over quarter and an increase of 50% year over year in terms of the permits that we are we have on our lives at the end of Q1.

I think J&J is you don't compares to your initial evaluation work you know the.

Yeah. The acquisitions are you know are certainly meeting expectations and you know what we are seeing is drilling you know on lands that we didn't expect to see drilling. So we had essentially backstop the acquisition work with the drilling on the core lands in the Permian and Eagle Ford, but we're certainly seeing a.

You know quite a bit of activity outside of those areas. So you know as far as the expectations from the deal you're probably a little bit copier.

Copier on the on the production growth side, but certainly you're really happy with the activity level, we're seeing and how that's going to build out going forward.

Okay, and then maybe just another one we have heard of some timing related issues with respect to completion crews in the U S compared to.

Once that are drilled and you touched on that I think a little bit with quest.

Question. There also can you just expand on maybe what you're seeing in real time with respect to wells that are drilled and you know some of the some of the time to completion compared to maybe what you expected.

Yeah, I mean, I think where we're at a little bit of a different spot where 75% of our our payers in the U S are large investment grade companies and so they've got that tends to they have a they have a.

Better access to to services them, we certainly have seen it in some other of the smaller private end of and of the operators.

Yeah, I think we're no I think that's.

Yeah.

Probably fair and and.

And I think that.

I think if anything we're seeing a little bit of contraction on cycle times compared to historically, just you know with the DUC count coming down and are in the U S. Over the last couple of years that.

Prioritizing on on drilled wells so.

Little bit of.

Our compression and timing there that are you know, we'll see will benefit us, but I think oh, Rob nailed it as far as you know just the quality of the payers that we have in and their access to equipment.

Okay. That's it for me. Thank you guys yeah. Thanks, Jamie.

Yeah.

Thank you.

There are no further questions registered at this time I will turn the call back to Mr. Spike.

Alright, thanks for everyone's questions and participation in the call. This morning, and we appreciate your continued interest in the company and we're always happy to share our results with you have a good day.

Yeah.

Thank you. The conference has now ended please disconnect your lines at this time and we thank you for your participation.

Yeah.

Yeah.