PrairieSky Royalty Ltd. (OTCPK:PREKF) Q1 2024 Earnings Conference Call April 23, 2024 8:30 AM ET

Company Participants

Andrew Phillips – President & Chief Executive Officer
Pam Kazeil – Chief Financial Officer

Conference Call Participants

Patrick O’Rourke – ATB Capital Markets
Jeremy McCrea – BMO

Operator

Ladies and gentlemen, thank you for standing by. Welcome to PrairieSky Royalty announces their First Quarter 2024 Financial Results. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded.

I would like now to turn the conference over to Andrew Phillips, President and Chief Executive Officer. Please go ahead.

Andrew Phillips

Thank you very much operator and good morning, everyone. Thank you for dialing into the PrairieSky Q1 2024 conference call. On the call from PrairieSky Pam Kazeil, Dan Bertram, Mike Murphy and myself, Andrew Phillips.

Before we begin, there are certain forward-looking information in my commentary today, so I would ask investors to review the forward-looking statements qualified in our press release and MD&A. First quarter of 2024, saw PrairieSky received 13,142 barrels of royalty oil volumes, a record for the company. Natural gas and NGL volumes remained steady. 50 new leases with 42 counterparties marked another strong quarter for leasing and generated $4.2 million in bonus revenue. Two notable developments took place over the first quarter. Firstly, our largest royalty payer added 2 new polymer and water floods and commercialized and went to development of a secondary recovery in its 2 core areas. The significance of this from a royalty owner is a potential doubling of the recoverable oil per section had no additional capital for our business. These are now in the money call options.

Secondly, new discoveries in a variety of Mannville heavy oil stacked zones grew our inventory of royalty development wells. For context, from 1994 to 2014, approximately 1,500 cold flow heavy wells were drilled per year; this kept production steady around 350,000 barrels per day. From 2014 to today, less than 250 wells per year were drilled and production dropped to 150,000 barrels per day. Given the stack pay, lack of bottom water, individual well economics and total oil in place, the area should be able to grow back to its previous highs and potentially surpass them.

PrairieSky shareholders are now positioned with the largest royalty position in the region. Our 2025 Investor Day will provide a deep dive into this play and also highlight all of the active water and polymer floods across our asset base. These are important assets as they lower our base declines and enhance the durability of our asset base.

I will now pass the call to Pam to walk through the financial results.

Pam Kazeil

Thank you, Andrew. Good morning, everyone. As Andrew mentioned, there are certain forward-looking information in the notice today, so I would remind investors to review the forward-looking statements qualifier in our press release and MD&A for the 3 months ended March 31, 2024. PrairieSky delivered another record quarter of oil royalty production which averaged 13,142 barrels per day. This represents an 8% increase in oil royalty volumes over Q1 2023 and demonstrates the strong level of activity across our land base. NGL royalty volumes averaged 2,535 barrels per day and natural gas averaged 62.1 million a day, bringing total royalty volumes to 26,027 BOE per day, up 5% over Q1 2023.

We did see lower spuds in the quarter as compared to the prior year. Based on licensing, commodity pricing and current third-party capital budgets in the Mannville and Clearwater; we anticipate drilling activity on our oil assets to remain robust in 2024. Oil royalty production volumes in Q2 will be negatively impacted by the unplanned outage at a third-party gas plant which is impacting producers in the Nipisi area. The estimated net impact to PrairieSky is 500 barrels per day. The current timing of a restart of the plant is unknown and our key producer in the area is reviewing alternatives to bring production back online.

Royalty production revenue totaled $113.2 million which was 91% from liquids. Other revenue totaled $7.5 million in the quarter and included $4.2 million of bonus consideration from entering into 50 new leases with 42 different counterparties. Leasing was primarily focused in the Duvernay light oil and Mannville heavy oil regions. PrairieSky is forecasting other revenue in the range of $25 million to $30 million in 2024, including lease rentals, bonus consideration and other revenue.

Cash administrative expenses in the quarter included annual employee officer and director payments for the year. As mentioned on our year-end call, we expect 2024 cash administrative expenses to be in the range of $35 million to $40 million due to strong stock performance impacting share-based compensation. With retirements from our Board of Directors this year and last year, we anticipate certain payments under the deferred share unit plan which are incorporated into our estimate.

Directors that retired at the AGM yesterday have until December 15, 2025, to redeem their DSUs. Current income tax expense totaled $14.7 million in Q1. Entering into 2024, PrairieSky has $1.4 billion of tax pools to offset future taxable income deductible at 10% per year. For 2024, that means the first $140 million of pre-tax cash flows tax-free with incremental cash flow tax at 23.6%. During the quarter, PrairieSky’s funds from operations totaled $83 million and we declared dividends of $59.7 million or $0.25 per share. PrairieSky’s net debt at March 31, 2024, totaled $208.3 million, a decrease of 6% from December 31, 2023, when net debt totaled $222.1 million.

We will now turn it over to the moderator to proceed with the Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Patrick O’Rourke with ATB Capital Markets.

Patrick O’Rourke

I’m just curious in terms of the lease bonus payments that you guys are seeing here, you do provide the number that you’ve signed on a quarterly basis and the number of offset operators. I’m wondering if you could provide maybe a little bit more color on that in terms of that makeup. And then the second element to that would be, of course, how the actual per acre sort of valuations of those have been trending over the last couple of years.

Andrew Phillips

You bet. No, thanks for the question, Patrick. And yes, leasing has been the highest in the company’s history over the last 2 years and it does vary from quarter-to-quarter and can be lumpy. Like we saw in Q4, we had a very large lease issuance bonus and that was longer-term leases for the Duvernay shale play in the West Shale Basin. And then this quarter, we’re kind of back to the more run rate or what you can expect quarter-to-quarter from the company. One of the interesting things just to talk about the composition of it a little bit is most of the leasing we’ve done over the last 2 years; operators had near-term plans for the land, so they were shorter term leases. And in a lot of cases, a year or 2 goes by fairly quickly. So we’ve been doing a lot of re-leasing of the same lands just a couple of years later. And the price on a per acre basis to answer the second part of your question, has been trending slightly higher along with the offsetting Crown lands.

Patrick O’Rourke

Okay. And then maybe just to switch gears. I know you guys get poked on this almost every quarter. But in terms of the return of capital policy, one thing that struck me yesterday at the AGM was that you — obviously, you’ve held the Texas Pacific Land Trust as sort of the gold standard in the energy royalty business and that a lot of their return of capital policy has been focused on the NCIB. I look at it, we model it out, you’re probably hitting net debt payout midyear 2025 on our numbers and you guys can corroborate that if you will. But how are you thinking about the potential to execute on an NCIB here? Would it happen ahead of hitting that payout? Or do you have to start sort of fully get to 0 debt before we’ll see any true NCIB execution?

Andrew Phillips

Yes. And just to talk a little bit about — thanks for the question. And I think on the return of capital piece, we obviously have the dividend which is $239 million annually. So any excess cash flow right now is just going towards paying off the debt. I think if you look at how we did it historically, we weren’t seeing good M&A opportunities in 2017, 2019. For the most part, we saw a better value in buying back stock, better long-term returns for shareholders and buying a PrairieSky share. And we’re unique in that we always have that option. So we bought back about $40 million a year of stock each consecutive year. And then during COVID, when things got dislocated, we bought back $100 million in August of 2020. And right now, our cost of debt has gone up materially. We borrowed to execute on the Heritage acquisition which we closed December 2021. We brought $728 million [ph]; that’s been repaid for the most part. Well, as you mentioned, it will be somewhere in the middle of next year where it’s completely repaid.

And so as we’re moving towards that, we’ve got to start thinking about the excess cash. And I think there is an opportunity to even build some cash in this environment. I think you just don’t want to have those options going forward to either make a great acquisition which has a high return on invested capital or conversely buy back more shares. And I think if you look at where the business sits today for the next 10 years versus the last 10, we IPO-ed with 5.2 million acres and 130 million shares. Today, we have 239 million shares and we have 18.3 million acres and some of the highest quality acreage, some of the faster growing parts of the basin. You don’t want to dilute that great asset base.

So, I think we — it will definitely be a return to shareholders. We won’t have a defined plan. We’ll just do it. We’ll do what makes the most sense when we sit as a board and discuss it. But the buybacks will start to come into play sometime in the next year or so, we’ll start to think about how to implement those. So sorry, that’s probably too long an answer for you.

Patrick O’Rourke

I think you spoke for about as long as I framed the question for us, so that was perfect.

Operator

[Operator Instructions] Our next question comes from Jeremy McCrea with BMO.

Jeremy McCrea

Andrew, I wonder if you can describe the type of wells that are coming on now just with the amount of wells that were spud this quarter versus where we were Q1 of 2023. Are the well IP rates getting higher? Or are you seeing less decline with the more conventional type of wells? Are they more oilier, just any kind of indication of how the wells this quarter are comparing to wells that we saw in Q1 of 2023.

Andrew Phillips

Yes, it’s a good question. And the composition of the wells in terms of how many more conventional wells versus multistage frac wells is reasonably similar. I think the one difference is there’s — every year, it seems there’s more refinements in production techniques and drilling techniques and better fluid systems. And so we are seeing slightly better IP 90s from the wells. And in addition, a lot of these wells now are getting drilled in already pressurized water flood areas. So the first year declines on those are a little more muted. So I think that’s kind of benefiting the company a little bit from the total production standpoint.

Jeremy McCrea

Okay. And then I think just like a question we always kind of want to ask in terms of M&A, is there opportunity out there? Is it anything more interesting, less interesting? Just maybe just a quick comment on that.

Andrew Phillips

Sure. Yes. And I mean we’re — we actually had a good slide at the AGM that just showed what our over last, we’ve been public for 10 years. And when we did our M&A and on the Y-axis was WTI price and it was typically $40 to $60 crude when we executed on our acquisitions. And that’s usually when we went in with net cash. I think today, you’re in an environment where you’re CAD110 light narrow heavy oil differentials. There’s a lot of capital sloshing around. The businesses are typically flushed with cash. So it’s — I think it’s more of an environment where there’s less quality opportunities that exist out there.

Operator

I show no further questions at this time. I would now like to hand the call back to Andrew for closing remarks.

Andrew Phillips

Well, thank you very much everyone for dialing into the PrairieSky earnings call and hope everybody has a great Q2.

Operator

This concludes today’s conference call. Thank you for your participation. You may now disconnect.