Cavvy Energy Ltd. (CVVY) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and welcome to Pieridae Energy's Second Quarter 2022 Quarterly Financial Results Conference Call. [Operator Instructions] I would now like to turn the meeting over to Mr. Dallas McConnell, Vice President, Corporate Finance. Please go ahead, Mr. McConnell.

Thanks, Katherine, and good morning to everyone on the call. I would like to welcome you to Pieridae Energy's Second Quarter 2022 Results Conference Call. With me today are Chief Executive Officer, Alfred Sorensen; President and Chief Operating Officer, Darcy Reding; and Chief Financial Officer, Adam Gray. Darcy and Adam will begin today with a review of our quarterly financial results and certain other company developments. Please note that a slide presentation will accompany their remarks. Following their prepared remarks, we will turn the call over to the conference coordinator for your questions. In order to provide everyone with an equal opportunity to participate, we ask that you limit yourself to 2 questions. Also, we ask that you focus your questions on industry recent developments and key elements of our financial performance. Before Darcy begins, I would like to remind you that our remarks today will include certain forward-looking statements that are subject to important risks and uncertainties. For more information on these risks and uncertainties, please see the reports filed by Pieridae with Canadian Securities Regulators on sedar.com. With that, I will now turn the call over to our President and COO, Darcy Reding, who will provide more detail on our operational performance last quarter and what is in store for the remainder of 2022.

Thank you, Dallas. Good morning, and thank you for joining us. We are extremely pleased with the company's second quarter 2022 results as we continue to make distance from our corporate strategic review that was formally concluded in January of this year. Since that time, we have reassessed our corporate strategy and firmed up our strategic priorities to ensure we are well positioned to enhance shareholder value through our unique advantage as the Western Canadian Sedimentary Basin's largest Foothills conventional hydrocarbon producer. We have also now identified over 300 gross drilling locations on existing company mineral acreage, equating to 234 net working interest locations, and we expect this drilling inventory will continue to increase as we work the more complex technical plays in our asset portfolio. We also expect our drilling inventory to increase over time with successful drilling outcomes and we are really excited to confirm we are on track to commence Pieridae's first-ever drilling program in the fourth quarter, and I will be speaking more on that in the next few minutes. I'd like to take a moment to note that the company's East Coast LNG project remains an opportunity. Productive discussions with several stakeholders continue, including the federal government of Canada. Our CEO, Alfred Sorensen, recently had the opportunity to meet in Halifax with Deputy Prime Minister, Chrystia Freeland, and other energy leaders to discuss advancing energy security and how Canada can collaborate with business to help our allies meet their energy needs. We are grateful for the opportunity to participate and thank Minister Freeland for her ongoing efforts to advance this important matter. Although crude oil and natural gas prices have shown volatility recently, they remain robust and continue to contribute significantly to Pieridae's cash flow generation. Additionally, strong pricing has enabled a significant principal repayment on our existing term loan in the second quarter, which our CFO, Adam Gray, will provide more details on later in the call. Physical fixed price commodity hedging is an important risk management tool for the company. And although second quarter hedge has reduced average sales revenue compared to market pricing, hedging will remain a part of our risk management. Adam will provide additional details on our current and forward-looking hedges and hedge strategy shortly. A binding purchase and sale agreement was executed in the second quarter, which will result in the disposition of our noncore properties in Northeast British Columbia. This disposition supports our strategy to divest our noncore assets that we believe will not internally compete for capital when compared to our more concentrated Foothill assets of Central and Southern Alberta. And I will provide additional details on this disposition a few slides from now. And lastly, the company is advancing our carbon emission strategy with the primary short-term focus centered on our Caroline gas plant complex and its associated Beaverhill Lake A Pool reservoir. We strongly believe to be a successful and profitable Canadian energy producer, we require a viable carbon management plan and our existing infrastructure and unique reservoir at Caroline provide that opportunity. We have recently added to our in-house expertise with new staff hired to exclusively focus on advancing our carbon management plan and ESG strategy. Moving into the operations recap for the second quarter of 2022. The quarter held a few surprises. Quarterly production of nearly 36,400 BOEs per day was a decrease of 10% from the previous quarter and a decrease of 5% from the same quarter in 2021. The company remains heavily weighted to natural gas production with 18% of our production being natural gas liquids, nearly half of that condensate. As is typical in the spring months of the second quarter, production was negatively impacted by 3,300 BOEs per day due to scheduled maintenance turnarounds completed at 2 nonoperated gas plants in Central Alberta. Although there were no direct cost to the company for these nonoperated turnarounds, the temporary loss of production and sales revenue was anticipated, but nevertheless, substantial. Additional temporary losses of 1,800 BOEs per day impacted the company's operated properties, which were the combined impacts of both scheduled maintenance and unanticipated rainfall impacts late in the quarter. The last significant production impact for the quarter is a result of the loss of reportable liquid volumes from ethane normally recovered at the deep cut facilities at the Jumping Pound and Waterton gas plants. The company was requested by our ethane purchaser to reinject liquid ethane into the sales gas phase for April and May at these facilities due to softening liquid ethane demand. Although contractual arrangements kept the company's sales revenue whole, the physical volume reduction reduces reportable sales volume by just over 1,200 BOEs per day in the quarter. Operating expenses in the quarter were in line with expectations despite ongoing inflation and supply chain cost pressure coming in at $53 million and $16 per BOE. The company benefits from the low natural decline of 8% to 10% annually from our Foothills conventional reservoirs, meaning very little investment is needed to offset or mitigate this natural decline. As I mentioned on the previous slide, it's typical in spring and summer months for maintenance turnarounds to be performed on facilities and field equipment often leading to material reduction of production. The graph on this slide highlights the impacts of these production dips in 2021, demonstrating they are temporary and production recovery occurs once the maintenance work is complete. Although second quarter 2022 production is low compared to previous quarters, our outlook forecast reflects our expectation for recovering these temporary production decreases in subsequent months. As mentioned previously, a binding purchase and sale agreement was executed in the second quarter, which will result in the disposition of our noncore properties in Northeast British Columbia. The [ AECO ] and Sierra properties near Fort Nelson produce about 1,100 BOEs per day, but have a significant ARO of $20 million. Because these assets are not expected to internally compete for capital in the foreseeable future, in addition to their remote geographical location in the company portfolio, they are considered noncore and a recent effort to find a buyer for the asset was successful. The pending disposition is accretive to netback, unit operating expense and although the cash consideration is small, materially reduces corporate ARO. It's also worth noting the 2021 year-end PDP [ and ] PV-10 reserve value on these properties is negative $7 million. Just as importantly, the pending disposition maintains the company's exposure to the identified upside in the asset without risk and without the need for a capital contribution through retention of a 10% gross overriding royalty on certain lands, which can be bought out for $6.5 million in cash at the option of the buyer. We are pleased with this pending transaction, given its fit with our strategic priorities. We are also pleased to confirm the company is on track to commence its first-ever drilling program in the fourth quarter. In our previous investor call in May, we summarized a tentative plan for a 3-well Central Alberta drilling program. Continued strong commodity pricing and cash flow has helped enable this plan. The program is expected to get underway with the first well's spud approximately October 1. We've contracted a drilling rig, ancillary services and have commenced procurement of all long lead time items. Because each of the 3 wells require approximately 50 days on average from spud to rig release, the program will span into the first quarter of 2023, with all production from successful wells to come online late in the first quarter of 2023. We are excited to kick off this stage of the company's strategy execution, and we look forward to successful results that will generate positive returns for our shareholders and help derisk additional drilling inventory. As mentioned previously, robust commodity pricing has helped maintain strong cash flow and our 2022 drilling program will be funded entirely by this internally generated cash flow. None of the 3 wells in the program are currently booked, so successful outcomes will all be incremental to the year-end 2021 corporate reserves report. The table on the lower portion of this slide provides a summary of key parameters associated with the drilling program. Conventional foothills wells provide tremendously impactful outcomes upon success, and the table shows key attributes on both a risked and unrisked basis. The risked internal rate of return on each well in the project averages approximately 60% using May 6 strip pricing, while the payout is less than 2 years. Upon a commercially successful outcome, the P50 well [ reserve ] will deliver a rate of return in excess of 100% at May 6 strip pricing, demonstrating the impactful characteristics of these conventional foothills opportunities. At this time, I would like to turn things over to Pieridae's Chief Financial Officer, Adam Gray.

Great. Thanks, Darcy. I'm pleased by our strong performance this quarter and excited by the potential for our upcoming drilling program. With respect to our quarterly financial results, I'll focus your attention on a few of the highlights. The theme for the quarter from my perspective was a significant first step towards delevering our balance sheet, driven by strong operational performance and support of pricing. We generated $23 million of net income during the quarter and $49 million of adjusted funds from operations, which is our cash flow proxy. These figures represent $0.15 and $0.31 per share on an undiluted basis for the quarter and total for the first half of 2022 of $0.22 and $0.60, respectively. Realized pricing improved marginally from Q1 and reflected the continued supportive commodity price environment. We realized $4.67 per Mcf for the natural gas in the quarter and CAD 116.61 per barrel for condensate. These prices represent a discount to market benchmarks of approximately 35% for gas and 12% for Conde, which reflects the impact of our hedged volume. I'll discuss our hedge program in a bit more detail further on, but we'll highlight that during the quarter, 52% of our total volumes were sold under fixed price forward sales contracts, representing 65% of our total revenues. This price environment resulted in total revenue during the quarter of $139 million or $41.87 per BOE and are also reflected in our royalty burden of $23 million or $7.08 per BOE. These figures result in netback of $16.90 for the quarter and $14.89 for the first half. If I remove the impact on revenue of hedging, underlying netback was $30.25 for the quarter and $22.86 for the first half, which are strong results. Looking at our netback results, I'll draw your attention back to something Darcy mentioned earlier in the presentation, which is our periodic reinjection in the quarter of ethane back into the gas stream. This had a 1,200 BOE per day impact on reported production results. But due to the marketing arrangement we have with ethane, we are kept hold from a revenue perspective. So our per BOE results are positively impacted on revenue but negatively impacted on costs. Note that we expect to reinject ethane into the gas stream for all of the remainder of 2022 and have revised our production guidance to reflect this, which represents about 1,800 BOEs per day on an annualized basis. Again, this change to reported production volumes does not have an impact on total cash or revenue projections. Next slide, please. Okay. Turning our attention to the term loan. As noted in our press release, we've repaid $23 million of debt principal during the quarter and an additional $5.6 million during the month of July. This reflects both voluntary repayments and those subject to the excess cash sweep arrangement we have with our lender. As I've discussed in previous calls, because the $50 million noninterest-bearing deferred fee portion of the loan is accreted over the loan's 4-year term as opposed to fully recognized on our balance sheet and because the present value calculations required under IFRS can change how we recognize finance expense through the P&L, it can be difficult to track what's actually happening on the loan. I've put together this waterfall to simplify the reconciliation between our balance sheet and treasury view of debt outstanding. As you can see from the chart, we had a total of $262 million of principal outstanding at the end of 2021, which is now down to $235 million. We are forecasting continued debt reductions over the next number of quarters, most particularly in Q4 of 2022 and Q1 and Q2 of 2023. Now 6 months through the year, we are confident that our deleveraging plan will continue to be executed, and our drilling program will be fully funded through cash flows. Although relatively immaterial, when the asset disposition transaction closes in the fourth quarter, proceeds from it will also be fully directed towards the loan principle. I will also mention that we're looking to refinance this term debt prior to it becoming current in late October of this year. Next slide, please. Touching briefly on our working capital structure, which has been a topic of conversation over the last 24 months. We believe our working capital has fully normalized during the quarter. At June 30, we carried a working capital deficit of $32 million before the impact of the current portion of the term loan. I expect this deficit to not materially change going forward as it reflects our management of working capital between receivables and payables as well as the impact of our cash sweep mechanism. Turning your attention to our hedge program now. Pieridae hedges commodity price volatility to protect the cash flow required in order to meet our forecasted debt service costs, both interest and principal, as well as our sustaining and development capital programs after taking base operations into consideration. Additionally, as previously discussed, we have a covenant in our existing loan agreement to hedge 60% of base productions on an 18-month rolling average. Our lender has been very supportive in providing waivers against this covenant all the way through 2021 and now through to October of 2022, which has allowed us to participate in these stronger prices in a much more meaningful way than would have otherwise been possible. The large mark-to-market of our existing hedge portfolio has prevented us from meaningfully adding to our hedge position on the gas side in recent quarters. But as the existing portfolio largely rolls off at the end of October of this year, that mark-to-market is decreasing and allows us limited access to the market to conduct physical deals. We also do not currently have credit available under our existing loan to enter into financial hedge contracts, we are examining the possibility of obtaining credit to do so. At the end of Q2, we were 45% hedged overall production for 2023 -- sorry, for Q3 2022 and 19% for Q4 of 2022. I'll also mention that subsequent to the end of the quarter, we have begun to opportunistically layer in a small number of fixed price gas sales contracts for winter of 2022 and 2023. Next slide, please. While the rolling gas price backwardation has limited our appetite to put long-dated gas revenue hedges in place, it has correspondingly provided a compelling opportunity to fix our power consumption pricing as Alberta power prices are closely correlated to natural gas prices. As a result, and as you can see from the chart to the right, we have nearly fully hedged our power cost for 2022, 2023 and 2024 at fixed prices on average, well below the current power strip. Power represents roughly 24% of total forecasted 2022 operating expense. And we have been very happy to take this substantial cost risk off the table over the medium term. As at the end of June, this power portfolio was roughly $27 million in the money versus our gas sales portfolio, which was roughly $47 million out of the money. Next slide, please. I'll close my remarks today by updating you on our 2022 outlook. I believe we have discussed throughout this presentation, most of the elements that have been reflected as changes to our outlook. Commodity prices have continued to be extremely volatile, so we remain relatively conservative with our forward-looking view. Current outlook is premised on a 2022 average AECO price of $5.13 and a WTA price -- WTI price around USD 93 a barrel. This pricing results in netback of $12 to $14 per BOE from net operating income of $150 million to $180 million. These estimates are raised and narrowed from guidance we have previously communicated and reflect a decrease in our production guidance of approximately 2,500 BOEs per day, largely as a result of the ethane reinjection which Darcy and I have previously discussed. We do not believe there are any unmitigated drivers, which would materially change our OpEx or sustaining capital expectations. We have elevated our development capital program slightly from a prior range of $17 million to $25 million to a current range of $25 million to $30 million. There are 2 factors influencing this raise. The first is strength in cash flows have allowed us to allocate an additional $3.5 million to smaller optimization opportunities. These opportunities have high IRR hurdle rates and are intended to support or grow our production and/or increase efficiency of our operations from our existing asset base. The second is an anticipated increase to our participation in the upcoming drilling program, which elevates our net capital estimate by just under $4 million. We do not anticipate a change in the gross capital estimates for this 3-well program at this time. With that, I'll turn the call back to Darcy to finish us off.

Thank you, Adam. Near the beginning of this call, I spoke of our work earlier in 2022 to reassess our corporate strategy and firm up our strategic priorities. We've spent some time walking through our second quarter results and accomplishments, and we've discussed our forward-looking activity, notably our fourth quarter strategic drilling program. We'd like to leave you with this summary of key takeaways from today. And lastly, we'd like to leave you with a summary of the Pieridae advantage before we open the call up to questions. With that, I would like to conclude the formal part of our investor call. And at this time, I will ask Dallas to wrap things up and prepare for questions. Thank you.