Obsidian Energy Ltd. (OBE) Earnings Call Transcript & Summary

Thank you for standing by. This is the conference operator. Welcome to the Obsidian Energy's 2023 Annual and Special General Meeting Conference Call. [Operator Instructions]. I would now like to turn the conference over to Stephen Loukas, President and CEO. Please go ahead.

Thank you. Good morning, everyone. I'd like to first point out that we will refer to forward-looking information in connection with the Obsidian Energy and the subject matter of today's call. By its nature, this information contains forecasts, assumptions and expectations about future outcomes, so we remind you it is subject to the risks and uncertainties affecting every business, including ours. Please refer to our public disclosure filings available on both the SEDAR and EDGAR systems for a full discussion of significant factors and risks that could affect Obsidian Energy or could affect future outcomes for Obsidian Energy. And with that, I'd like to turn your attention to Page 3. It's a slide titled Investment highlights. Just to give you a bit of an overview of Obsidian Energy, from a production perspective, we have a low decline oil-weighted asset base with significant underlying reserves. We are the largest acreage holder in a world-class, low-decline light oil cardium resource with very strong positions both within Willesden Green and Pembina. Within Peace River, we have a high-quality cold flow, low decline heavy oil Bluesky resource with upside emerging from our Clearwater oil play. All of that results in a high degree of free cash flow, and we anticipate that free cash flow will allow us to approach our current targeted net debt levels and reduce our net debt to FFO ratio. On the return of capital front, we have commenced a share buyback, which is subject to maintaining the minimum of $65 million of liquidity in complying with our current credit agreements. And on the ESG front, we're committed to strong ESG practices, including minimizing the environmental impact. Further in regards to corporate overview, if you look at our 2023 guidance, we are forecasting at the midpoint production of 32,750 BOEs a day, and that is before the impact of our previously disclosed wildfire impact during Q2. Our midpoint results in year-over-year production growth at the midpoint of 7%. We have a production mix, which is approximately 67% oil and liquids. At year-end 2022, we have approximately 180 million BOEs of 2P reserves, which equates to an ROI index of approximately 13 years. Our year-end 2022 PDP decline rate is approximately 24%, and we have a very advantageous tax flow position of approximately $2.5 billion, $2.1 billion which is immediately deductible resulting in the Obsidian Energy not being a cash taxpayer for the foreseeable future. Current shares outstanding as of Q1 were 82.5 million shares. We have a market capitalization of approximately $675 million with Q1 net debt of approximately $351 million. That results in net debt to FFO at Q1 annualized of approximately [indiscernible] and an enterprise value of approximately $1 billion. Turning to Page 5, what is Obsidian Energy strategy? It's multipronged. Firstly, we want to drive per share growth via asset development and debt reduction. We want to use our free cash flow from our Cardium asset to invest in our Peace River growth asset. With the increased scale from production growth, we desire to manage our cost structure through production additions. Our targeted net debt is approximately $225 million of the current production profile and that is subject to change contingent on our future growth plans. And lastly, as previously outlined, the Board has authorized an NCIB, and we will be providing the return of capital strategy via share buyback program. Turning to Page 6, which outlines our corporate performance. You can see our historical performance in 2021 and 2022. Turning your attention to our 2023 guidance. As previously outlined, we have a midpoint of 32,750 BOEs at a WTI price of $80 with a $22 heavy oil differential, the $4 light oil differential as well as $3 AECO that will equate to approximately $395 million of FFO and $105 million of free cash flow. Capital expenditures at this juncture are forecasted to be between $260 million to $270 million with decommissioning expenditures of approximately $26 million to $28 million. Our net debt prior to any NCIB -- the impact of any NCIB would be approximately $250 million at year-end, which would equate to approximately a half turn of net debt to FFO once again, prior to the NCIB. Turning to Page 7 and our focus on 2023. It's a balanced strategy with plans with optionality to adjust our plans later in the year. From an operational perspective, our capital investment is focused on approximately $240 million in base core business CapEx increased production of approximately $25 million to further explore and appraise our Peace River asset. During the first half, we've utilized 5 rigs, and we've been active in all areas, including the Viking. As outlined, that will equate to approximately 7% of annualized production growth at the midpoint. Within the Clearwater and Bluesky, our exploration appraisal program is really focused to begin the appraisal of our large Peace River land base. We've managed to date to establish a new development area within Walrus and had a focus on the Bluesky development. We did drill a number of oil sand exploration wells, which will further delineate our acreage across both the Bluesky and the Clearwater formations. We are focused on securing services materials for the second half of 2023, and we've been very active in trying to dominantly manage our cost pressures. From financial impact, once again, we've got targeted that targeted free cash flow of approximately $105 million prior to the NCIB. We'll continue to focus on reducing our debt and by extension our leverage levels. We recently expanded our revolver to further enhance liquidity that we've seen on a year-to-date basis, our revolver increased by approximately $65 million from $175 million to the current $249 million. We are focused on return of capital strategy. We have a share buyback, which has been approved at DSX and we've commenced buying back shares within the open market. Turning your attention to Page 8, just to give shareholders some additional color in regards to our equity plans. We use our equity compensation plans as long-term incentives to further incentivize our employee base. We believe these plans are within our targeted peers. We've been -- in 2023 settled employee incentive plans in cash, which we believe results in better value for our shareholders. In summary, equity-based incentive compensation is key to attracting and retaining qualified employees within the industry and aligns our performance to increasing shareholder value. Employees do not receive immediate value at the time of the grant, future values depend on meeting shareholder return metrics over a 3-year period for our PSUs or increased share price in the future at a time investing as it pertains to our options. The Board believes our compensation plan is appropriate, considering the compensation -- the company's situation over the past 3 years and peer incentive levels, we have hired on an annual basis an independent third-party consultant, which reviews our compensation program. In 2023, given the significant discount to our share price relative to our intrinsic value, the Board decided to sell approximately $9.8 million of equity award plans in 2023 in cash rather than the usual practice of issuing more shares. As it pertains to PSUs and RSUs granted in 2020 and '22 to employees and senior management, including myself, those were stalled in cash, and we believe that the settlement in cash as opposed to equity resulted in approximately an $0.11 benefit to shareholders. Turning your attention to the chart on the upper right-hand corner shows you our broad rate over the last 3 years in 2020, you would have seen a higher burn rate, which was a direct result of our equity trading at a ready depressed level, given oil prices at the time in the company's financial position. You've since seen the company's burn rate decrease as the equity value has improved such that in 2022, Obsidian's burn rate was below the peer average and we would anticipate we'll be at the peer average on a go-forward basis. With that, I will turn it over to Gary Sites, who will walk you through our 2020 development program.

Thanks, Steve. Good morning or good afternoon, everyone. My name is Gary Sykes, and I'm the Senior Vice President of Commercial and Development for Obsidian Energy. So I have 5 slides to go through with you today with the intent of giving you an overview of our H1 development program. and then dropping down to each of our 3 asset areas to provide some incremental color. So just in terms of our first half, we have completed our drilling programs and importantly of note, included drilling in all of our asset areas, namely in our Cardium asset, which includes 2 main areas for Obsidian, namely Pembina and Crimson, the Peace River area in Northwest Alberta, where we have our -- flow heavy oil asset and our light oil Viking asset in Eastern Alberta. One item I would draw your attention to between the 2 purple bars on the bottom left of the page, is the 4 OSE or oil sands exploration wells we've drilled at Peace River. And these are wells that are drilled purely for informational purposes, and I'll talk more about these wells when we discuss Peace River. Next slide, please. So if we talk a little bit about our Cardium asset. This is the largest producing asset at present with greater than 70% of our Q1 production coming from the Pembina and Crimson areas. It also represents a very significant component of our reserves book. And for those of you who follow us closely, you'll have seen that we had a very material reserve addition at year-end '22, driven by this asset. So if you combine the characteristics of being the largest acreage holder as we've mentioned in the Cardium in conjunction the fact that we own a very substantial component of the infrastructure in the area and the application of advanced reservoir modeling in conjunction with detailed drilling and completion techniques, we continue to see this asset as an important part of Obsidian for a very substantial time to come. Next slide, please. Moving to Peace River. There are a few key points I'd like to draw your attention to. So this is our cold flow heavy oil asset. We own 100% of this asset. Over 500 sections under a long-term lease structure in which we retain rights to both the Bluesky formation as well as the Clearwater formation. We can produce around 7,000 barrels a day, but I would also say that this is from around 7% of the land base. So the takeaway being that we have tremendous running room in terms of the ability to identify future drilling inventory and grow the underlying asset base. Two additional points I'd like to point out here. The oil sands exploration wells we drilled in Q1, as I mentioned a few moments ago, as a reminder of these are vertical wells that capture the reservoir rock as well as measuring specific properties in the subsurface are effectively a commitment on our side to accelerate the understanding of our land base such that we can better delineate and plan for future production. So expect to see more of these OSE wells going forward. And the last point I would make is that one of the key successes coming out of our Q1 drilling program was the derisking of a new area of the field we call Walrus, and you can see that in the chart to the top right-hand side. It's just to the east of our main Harmon Valley South property, where the bulk of our existing production comes from. And with 2 very successful wells here in the first part of the year with very positive implications for future inventory. And as we've said recently, we will have more substantive update on our Peace River asset for our stakeholders during the third quarter of this year. Let me move to the next slide and talk a little bit about what's going on in our Clearwater. So Clearwater clearly continues to be an important part of our near-term drilling plans. And as we continue our Germany on derisking and delineating our land base in the clear water, we have now drilled 3 wells in our Clearwater acreage, 2 of which are producing and we have put the wells planned in a number of different areas across our acreage in the coming drilling campaigns in conjunction with additional oil sand exploration wells. So say, of course, that Clearwater is one of the most exciting plays in North America. As I've described, we have a very substantial landholding in the northwest part of the play. We have a great team working on the technical characterization of our holdings, and I look forward to keeping all of our stakeholders updated with results as we go forward. The last but not least, on the next slide, just I'll give you an update with regards to our Viking asset. And as many of you know, we had an 8-well program last year, and 1 of those 8 wells was a step out of an appraisal well to the west of our acreage. This well proved to be very successful such that we followed up with an 11-well program at the start of this year. We had previously noted these wells were doing around 1,800 barrels a day and cleaning up. However, we've now seen these wells approach 2,100 barrels a day. And for those of you that are familiar with the Viking play, these are really exceptional results and open up a significant inventory that's going to compete for capital in our future drilling plans. But again, a very successful first part over first half drilling program. And with that, I will pass it over to Cliff.

Thanks, Gary. I'm going to take you guys through the sustainability highlights at Obsidian Energy over the past 5 years. We've worked hard to make a difference to the environment, the community and our stakeholders. Grouping this approach into the environment, social and governance functions. I'll start with an environment where we've achieved a 40% reduction in greenhouse gas emissions between 2018 and '21, and a 40% reduction in injected freshwater use between 2019 and 2021. Over that 2017 to 2021 period, we were able to reduce our pipeline failures per 1,000 kilometers by 75%. On the social side, in 2021, we had just over 10,500 worker safety initiatives which include things like work observations, hazard identifications, equipment inspections, corrective actions and emergency exercises these are all collected through internal research. 26% of our overall employee population base is female of 37% of our office staff are -- and we have achieved just over $1.8 billion in economic contribution between 2017 and 2021. On the governance side, 86% of our Board members are independent with a 5.4-year average tenure. We have 7% insider ownership. And with our stock-based performance plans, we believe our compensation is aligned with the interest of our shareholders. Next slide, please. Focusing on asset retirement, we see ourselves as an industry leader in this field. Our commitment to stakeholders includes responsible asset retirement as part of the full cycle development Between 2019 and 2022 over those 4 years, we've abandoned 989 wells. We've discontinued and abandoned 2,735 kilometers of pipeline, we've abandoned 64 whole facilities, and we've received 288 reclamation certificates for a total reduction in decommissioning liability of $90 million. Our strategy has been to participate where we can in industry committees in our regulatory initiatives, trying to get better at what we do which improves our ability to economically remediate sites. And we continue to actively reduce liability every month at our company. We've been an early adopter of many programs, including the area-based cloud program, which has ported into the liability management framework, and our company has contributed the voluntary 3.3% of an active liability as well. And over its duration, we were able to achieve $31 million in gross support of the Alberta site rehabilitation program grants and allocations. We're proud of our asset reclamation and rehabilitation efforts as they support vendors and create partnerships with First Nation groups to further improve our community stewardship. With that, I'll pass it over to Peter.

Great. Thanks. Good morning, everybody. My name is Peter Scott. I'm the Senior Vice President and CFO of the company. So on Slide 16, I just want to take you through a pretty significant asset thats we have here at our tax pools. We finally recognize those tax pools on our financial statements at the end of last year, end of 2022, and that's because we expect to be profitable to utilize these pools. To give you an idea, as Steve outlined, we have $2.5 billion of tax pools, $2 billion of which are immediately deductible. In other words, we can use them to shelter cash taxes right away, and then another $0.5 billion that are based on a time down basis. So at $80 WTI, we expect that we would be noncash taxable for at least 10 years, which again, is a very significant asset and I think differentiates us against most of our peers. To put this value into context on a per share basis, if you look at the chart on the left-hand side, showing you a couple of different iterations here. If we were to utilize anywhere between $200 million and $500 million of pools per year, that would equate to a discounted value of $350 million to $450 million or $4.19 to $5.40 per share. So a pretty significant share value that's embedded in our tax pools. That's all done at an 8% discount rate. We use that discount rate because the risk on this asset is very low. The bottom chart, if you look at it, [indiscernible] able to use, which we wouldn't, but if we were able to use immediately all our deductible tax pool, that would be $538 million of value or $6.42 a share. sorry, $444 million or $5.29 a share, and all our pools are probably worth about $642 a share at that same discount rate. So again, very significant assets will allow us to shelter our free cash flow for many years in the future. And again, something that differentiates us from our peers. Next slide. So I just want to touch on our reserves. Even though it's not on this slide, we continue to have a very solid reserve performance with a reserve report this year, we had strong recycle ratios 1.9x to 2.6x. Our reserve replacement was 144% for PDP up to 393% on 2P. Our 2P increased significantly due to the future development capital that we added to our reserve which more rightsized it with our future capital plans over the next several years. So pretty significant performance for us. The point of this slide is really to show you the value that the reserves have and how that translates to our share value. If you look at the chart on the left, we're showing you the various reserve categories producing total proved and proved plus probable reserves at various price decks, $70, $80 and $90 WTI and you can see the value there ranges from $1.2 -- $1.3 billion and PDP at $70, all the way up to $3.2 billion at 2P at $90, and you see that matrix in between. If you look at the chart on the right, you can see how that translates to share value. This is using a proxy or a net asset value per share where we've also deducted off our debt. And so you can see a $70 that share value or PDP is $10.78 all the way up to $21.65 on a 2P basis. compared to our share price at $8.23 close on Friday. And correspondingly, for $80 and $90, you can see those share values go all the way up. So on a PDP basis, our reserve value is higher than our current share price. And of course, there's just further embedded share value as we look at the other categories on a reserve basis. So in summary, I think it shows that the reserves do support the underlying share value of the company. with all the future inventory that's also available to the company. I think there's a lot of in there. With that, I will turn it back to Steve.

Thanks, Peter. So in summary, why invest in Obsidian Energy? Firstly, we have a dominant Cardium land position with a deep opportunity in inventory of high-return wells that can be used to maintain our strong free cash flow generation. our production -- low decline production profile and strong free cash flow generation allows us to focus on debt reduction to achieve our debt target of approximately $225 million at the current production profile. We've got a compelling 500-plus sections within the Peace River area with established Bluesky production, owned infrastructure and significant Clearwater potential to drive future growth. We created a significant discount in both reserve values as well as relative to our peer comparables. We have a share -- commenced a share buyback and that is subject to maintaining a minimum of $65 million of liquidity and complying with our current credit agreements -- debt agreements. We have significant tax pool positioned, which allows us to be a noncash taxpayer for at least 10 years at $80 WTI. Our strategy is focused on maintaining operational excellence improving our leverage profile of returning capital to shareholders and delivering top quartile total shareholder returns. And lastly, we're dedicated to making a positive difference in the environment, our stakeholders and the communities where we live and work. And that concludes our presentation.

Thank you, Steve, and thank you all the senior management team. Operator, at this point, we'd like to open it up to question and answer. So to remind people, please, if you're listening in through the webcast, you can submit your questions there. Otherwise, we'll start off with ones that have been submitted to the Investor Relations department previous to this. First question, is around lower commodity prices that we're seeing in production. Is there -- what's the impact on 2023? And what's our commodity outlook for the rest of 2023?

I'll take that question first. What we've seen year-to-date is a commodity price that is a bit lower than the US$80 WTI that our forecast is based on. Having said that, we have seen heavy oil differentials tightened considerably relative to our 2022 assumption. And by and large, foreign exchange has been marginally in our favor. So on a net-net basis, I'd say we're marginally behind kind of our plan from a free cash flow perspective, but directionally very consistent with the guidance that we had put out. In regards to our current commodity price forecast, we have been and continue to be negative on natural gas pricing, and that was just a function of storage levels. going into this spring, we're coming out of this winter. And I think you've seen us fairly aggressively hedge summer gas and a good portion of our winter gas. As it pertains to oil prices we are constructive. We do think that the cuts that have been announced and will ultimately take hold. We would anticipate that pricing will firm up as we work our way through winter through summer I should say, and believe that there'll be $75 plus. And as a result, highly constructive relative to our guidance.

The next question is a question about Canadian pipelines. What's the current status of the new Canadian pipeline? And what impact will it have on Obsidian's future.

Peter, do you want to answer that? And I would imagine it's referenced to Trans Mountain.

Yes. So I'm assuming the question is in reference to Trans Mountain. Our assumption is that Trans Mountain likely becomes operational in early 2024 based on information that we've seen out there, starting with land fill. We expect that will probably have a positive impact on differential -- heavy oil differential [indiscernible] we expect to tighten up I think you're starting to see that in the marketplace. So with about 7,000 BOEs a day or barrels a day of heavy oil. That should be positive for the company. So as we look at our Peace River assets and continued growth plans, that should feed in well as we continue to grow that asset.

Question regarding development plan for Peace River. I'm wondering when that might be coming out from us not just the second half, but into the future and kind of what are your overall plans with the area to try and cement the value of it?

So we've previously disclosed that during the third quarter, we would be outlining or will outline a medium-term growth plan for the asset. And so -- we'll have more to say on that in the months to come.

Follow-up question is, do you have any guidance in terms of your current planned CapEx for Q3?

We don't break down CapEx by quarter. We are looking at the second half budget in light of both a combination of commodity prices as well as well results, and we'll have more to say when we release our 2Q results in late July, or early August.

Turning to the share buyback program, a couple of questions regarding the strategy around it. What is the strategy regards to trading frequency. When do you think it's going to be completed? Do you think there might be a dividend thereafter once you reach that 10% threshold.

Peter, over to you.

Yes. So the NCIB allows us to purchase up to 10% of our shares. As we mentioned -- we have commenced purchases under that. We will be filing, as required regularly on a monthly basis as well as reporting in our quarterly report of those share repurchases. So that will continue. Again, we do see the intrinsic value of our shares being a lot higher than where the share price is trading. So we'll continue on that path. With respect to any kind of dividend, right now, the Board and the company saw in the path of the share buyback, dividend is not being considered at this point in time. Did that capture all question?

I think it did. I think the follow-up a little bit more directed was one question regarding a couple of questions regarding the share price itself in terms of what the company and what management is doing to do in terms of getting -- accessing the value for the share, I thought about that RBC thinks OBC's, Obsidian's worth more. where do we think it should be and what's top quartile.

Yes. I mean, listen, I would simply say that we believe our shares are trading material discount to the intrinsic value. The Board has authorized the share buyback in that regard. From our perspective, we're going to continue to operate the business in the top quartile fashion. And we're big believers that over the intermediate to long term, the market will recognize that value. In the short term, we'll take advantage of it via the share buyback plan.

Next question is regarding the Viking in the second half and if there's any plan set as of yet and what's our unused facility capacity at Viking.

Gary, do you want to take that, please?

Certainly, so just in terms of Viking, so we're right at this point in time just in the finishing touches to our second half program, and we were saying that in due course. Part to says is that we can drill at Viking, we're ready to move from a materials perspective. Where we like to do so is something we're working through right now. So more to say due of course. Regards to the capacity, with this last program, we added a significant amount of infrastructure. So we've actually got strong capacity room, as I say, should we choose to grow that asset. And that's something we're looking at right now.

Thanks, Gary. A question that was submitted regarding our ARO level. Question about if that's impacting the valuation of Obsidian and it impacts our future value do we still -- do we feel it is manageable.

I'll take that question. And I'll start at the end, I mean, the ARO is definitely manageable. We do not believe that it's impacting our valuation. It's an expenditure that we've been dealing with for many years, and we'll continue to work our exposure down in the years to come. And it's not something that we're overly concerned with.

Question about our net debt and what our current approximate net debt is in our approach.

Yes. So our net debt will be coming down in Q2 because it is a lighter capital quarter. So the only thing we have publicly is where we were at the end of Q1, which was...

$351.4 million, if I recall.

Yes, $351 million. Thanks, Steve. So we do expect that to come down in Q2 as we would generate additional cash flow. Obviously, we talked about the impact of the fires. -- being about $6 million on FFO, so that will have an impact on that net debt number, but it should be coming down here in Q2 with our leverage ratio, probably also improving as well.

Thank you, Peter. a question that was submitted around op cost, and if we're seeing service and supply costs increasing or decreasing and are we having any challenges obtaining inventory.

Yes. I would say, in general, we've seen service and supply costs starting to come down from leveling off here over the last couple of months. We haven't had any trouble securing services or supplies at all. So I think we're in a really good position for the remainder of the year.

A question regarding the share buyback. Do we have an estimated timing for when we think this would be completed from a month standpoint?

We do not, and we'll continue to be opportunistic. And so the answer is we don't.

One question from a shareholder regarding crude a scenario where crude holds a $70 for the year, does the debt close an issue for Obsidian. And what material headwinds besides a depressed commodity price does management see and what's the strategy behind navigating them.

Yes, sure. We don't see -- we're not concerned about our debt levels at $70. We'll continue to be south of 1x debt to EBITDA or debt to FFO. And so versus kind of both from a perspective, what that represents on an absolute level as well as relative to historical norms. I mean we're not the least bit concerned. There really isn't -- I think that keeps us up at night beyond simply the exposure to commodity prices, which is a given in this industry. And so we're quite comfortable where the business sits as we stand.

Yes. I would just add on to that. We have the ability to alter our capital program, which we've done in the past in terms of where commodity prices are going and our view on commodity prices. So we'll continue to do that as well to manage the commodity price volatility.

At this point, Steve, there are no more questions showing up. We can give the shareholders fewish a minute to see if they want to submit anything else.

Sure let's just give them 30 seconds and see if there's anything else.

Just a reminder to everybody on the call, if you have a question you wish to submit it after the call, you can send it to Investor Relations at [email protected]. And Steve, I'd say that would be it for questions at this time.

Great. We'd like to thank everyone for joining us today as well as for the questions received. If there's any follow-up, please reach out the Susan and look forward to continuing to report with many of our shareholders in the weeks and months to come. Thank you very much. Enjoy the rest of your day.

That concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.