Whitecap Resources Inc. (OTCPK:SPGYF) Q2 2020 Earnings Conference Call July 30, 2020 11:00 AM ET
Grant Fagerheim – President and Chief Executive Officer
Joel Armstrong – VP, Production & Operations
Thanh Kang – Chief Financial Officer
Conference Call Participants
Amir Arif – Cormark
Jeremy McCrea – Raymond James
Adam Gill – Eight Capital
Chris Jones – Haywood
Good morning. My name is Sylvie, and I will be your conference operator today. At this time, I would like to welcome everyone to Whitecap Resources 2020 Second Quarter Financial and Operating Results Conference Call. [Operator Instructions]
And I would like to turn the conference over to Whitecap’s President and CEO, Mr. Grant Fagerheim. Please go ahead, sir.
Good morning, everyone and thank you for joining us this morning. I’m joined the three members of our senior management team, our CFO, Thanh Kang; as well as Darin Dunlop, our VP of Engineering; and Joel Armstrong, our Vice President of Production & Operations.
Before we get started today, I would like to remind everybody that all statements made by the company during this call are subject to the same forward-looking disclaimer and advisory that we set forth in our second quarter news release issued earlier this morning.
The second quarter of 2020 was extremely busy for Whitecap, as we put in place real-time measures to deal with the effects of the COVID-19 pandemic. Our priority was the health and safety of our office staff and field personnel, while we continued to deliver solid operational performance. We will continue to update corporate policies to maintain the safety of our personnel and to minimize any business disruption.
Our production in the second quarter, as provided in our press release earlier today, was that the high-end of our expectations at 70,807 BOE per day with the development capital expenditures of $21.3 million. We also acquired an asset in our core Northwest, Alberta Peace River Arch area for $5.2 million, which included 220 BOE per day of production, along with numerous drilling locations for future development.
As well as — as well during the quarter in response to the near term collapsing oil prices, we voluntarily suspended approximately 2,000 BOE per day, which impacted average production in the quarter by 1,300 BOE per day. Approximately 1,000 BOE per day of the suspended production has now been brought back on production, while the remaining productive capability requires further price recovery in order to restore.
Crude oil prices experienced unprecedented volatility in the second quarter as a result of the demand destruction from COVID-19 with U.S. WTI trading in the range of negative $37.63 to positive $40.46. The OPEC Plus production cuts and North American producer shut-ins helped alleviate the decreased demand with WTI recovering to $38.31 in the month of June.
Our risk management program minimized the financial impact of the volatility, and we realized $51.4 million of crude oil hedging gains in the second quarter. Despite the collapse in crude oil prices and volatility where we were able to generate $78 million of funds flow in the quarter, of which we spent $21.3 million on capital, $17.5 million on the dividend, bought back 1 million shares at $2.30 per share to keep our share flat count — our share count flat, and $5.2 million consolidating production and inventory in our Charlie Lake play. Net of all activities, we managed to reduce net debt by $32 million. We started the quarter with a strong balance sheet and our phase one and phase two actions helped us maintain this competitive strength as we move forward to 2020.
I’ll now pass on this onto Joel to provide more color on our very strong operational performance and provide an update on our health safety and environment initiatives.
Thanks, Grant. The number one priority for our operations group and field offices is always the health and safety of our people. COVID-19 has resulted in extensive review of our company policies at the field level and head office. Our success in avoiding instances in — of COVID-19 to date is a result of the hard work by all Whitecap staff to develop and follow the new guidelines.
Our second quarter safety and environmental performance was exceptional, with no injuries, which ranks as the best quarter in the past five years and spill volumes were 45% lower than the same period — than the same period in 2019. I’d like to take the opportunity to thank our HSC asset integrity and operations teams for the continued diligence, professionalism to achieve these results.
The operations team was focused on various cost reduction initiatives and real-time analysis of well level operating income as crude oil prices fluctuated. This detailed analysis allowed us to maximize area netbacks by maintaining production volumes on the wells that generated positive operating income. The second quarter was strong from a production perspective, considering the challenges with the temporary decrease in crude demand and building inventories.
Operating expenses per BOE were reduced by 8% quarter-over-quarter as a result of the cost structure review, which was implemented in late Q1. It is anticipated a component of the reduction will continue forward, although the majority is associated with activity based operations.
Lastly, from an ESG perspective, we continue to demonstrate our strong efforts by reducing our emission intensity by 37% since 2017, and have implemented a target to further reduce 20% over the next three-year period. Of note, our report now conforms to Sustainability Accounting Standards Board, SASB, and Task Force on Climate-related Financial Disclosures, TCFD, framework. Further details are available in our recently issued ESG report, which is located on our website.
With that, I pass it onto Thanh to provide some color on the financial results.
Thanks, Joel. WTI averaged U.S. $27.85 per barrel in the second quarter compared to $46.17 in the first quarter, a 40% decrease. Canadian crude oil prices differentials improved from the first quarter with the Edmonton Par differential averaging $6.14 U.S.
Realized oil prices prior to hedges and tariffs were $26.55 per barrel compared to the $47.48 in Q1 of 2020, a decrease of 44%. Realized NGL prices averaged $13.17 per barrel compared to $12.30 in Q1 of 2020, an increase of 7%. The increase is mainly due to higher propane and butane prices, which represent 62% of our NGL mix. Realized natural gas prices were consistent with the first quarter and averaged $2.16 per Mcf compared to $2.18 in Q1 of 2020.
The royalty rate in the second quarter was 9%, which was lower than the first quarter rate of 15%. This was driven primarily due to lower crude oil prices. Operating expenses in the second quarter were $11.18 per BOE, 8% lower than the first quarter. As Joel mentioned, the decrease is attributed to cost reduction initiatives in response to the low commodity price environment. In addition, our transportation expense of $2.39 were consistent with the first quarter.
G&A of $0.79 per BOE were 12% lower than the first quarter. The decrease is attributed to a full corporate review of all expenses, including a voluntary 10% reduction of our management team salaries.
Stock-based compensation recovery of $2.4 million was recorded in Q2 compared to an expense of $27.3 million Q1. The decrease is primarily due to the change in the fair value of the total return swaps resulting in unrealized hedging gain of $12.3 million. This was partially offset by realized loss of $4.6 million on total return swaps that we settled in the quarter.
The DD&A rate was $12.54 per BOE in the second quarter compared to $18.72 in the first quarter of 2020. The decrease is attributed to the non-cash impairment expense booked in the first quarter. Fund flow for the quarter was $78.1 million or $0.19 per share, which generated the total payout ratio of 50% after capital invested and dividends paid to our shareholders.
Whitecap balance sheet remains in a strong position, with quarter-end net debt at $1.24 billion on total capacity of $1.77 billion. Adjusted EBITDA ratio was two times and EBITDA to interest ratio was 12.7 times, both well within our covenant. So, very strong quarter for Whitecap, despite the low commodity price environment. We’re on track to achieving our 2020 average production guidance of 65,000 to 67,000 BOE per day on our capital expenditure budget of $190 million.
I’ll now pass it onto Grant for his closing remarks.
Thanks, Thanh. As the COVID …
Mr. Fagerheim, we can not hear you at this time, sir.
Sorry. I was just saying, as we enter into the second half of the year, we expect to see continued volatility in commodity prices as the COVID-19 pandemic continues. However, overall, we see crude oil prices improving as we head into 2021.
Whitecap is in a solid position with a robust hedge book, strong balance sheet, low decline rate, and high netback assets, and most importantly, a dedicated team of people at Whitecap. We do anticipate there to be an increased amount of industry consolidation that will take place in the back half of 2020, as well as in 2021. At Whitecap, we have the opinion that size and scale are important factors in driving profitability and longer term sustainability.
With that said, we believe that we are well-positioned to play a role in the consolidation phase the energy sector is entering into. Our interest is in assets and corporations that are principally focused in our core geographic operating regions with preference to light oil, as it still drives the strongest operating netbacks in the sector.
With respect to our dividend, we have not made any changes to our current dividend of point — or $17.10 per share as we feel the strength of our assets can support the dividend in the current pricing environment as evidenced by our second quarter free funds flow generation.
We will remain diligent to safely operate and optimize our assets for the continued focus on capturing additional opportunities to further strengthen Whitecap and deliver reliable and consistent returns to our shareholders.
On behalf of our Whitecap Management team, our Board of Directors, we would like to thank each of our shareholders for your interest in supportive Whitecaps. Wishing everyone good health and safety through these very disruptive times.
With that, I’ll turn the call over to the operator for any questions. Thank you.
Thank you, sir. [Operator Instructions]
Your first question will be from Amir Arif at Cormark. Please go ahead.
Thanks. Good morning, guys. Yeah, just a quick question Grant, just on the acquisition. Can you just give it some color in terms of the acquisition characteristics that you would look for? Are you looking to stick with light oil, or are you willing to look at shale and other opportunities and stick within your core areas or largest scale, I guess? Would you be willing to step out of existing core areas?
Sure. So — yeah. Thanks, Amir. What we’re — the acquisition — what we did in the first quarter and future acquisitions, we anticipate staying in and around our existing core areas where we can drive operational synergies, looking to increase our inventory of opportunities into the future without sacrificing the decline characteristics of our assets. So, the way we, historically, operate our assets are quite different from the way most companies operate. We prefer to drive things down to a lower decline rate and have each one of the assets, in essence, live within it’s own cash flow.
So, as we did with the small acquisition it was a complementary acquisition in the second quarter. Future acquisitions, you’ll look to see potentially larger in scale as we continue to look at larger asset acquisitions, as well as other corporations. But the key characteristic for us will be focused on light oil, perhaps a little bit of natural gas, but we are focused on light oil at this particular time and making our company stronger for the longer term.
Sounds good. And just a second — final question. Just on the hedging front. Your wellhead this year definitely helped in the quarter given where commodity prices went. But as we look into 2021 that the curve isn’t — that doesn’t show a lot of content over the next few years. And so just curious how you’re thinking about hedging at current levels? Or do you just protect it through lower balance sheet levels?
Yeah. Thanks for the question, Amir. It’s Thanh here. So, our hedging objective remains the same. We’re looking to mitigate that price volatility and protect our economic returns. And as you mentioned, we do have a good portfolio here in 2020, a bit light in 2021 was only 5% hedged. We did take a pause to the program with the pandemic and ultra low crude oil prices here. But we’re still actively looking at getting to that 20% to 40% in 2021 before the end of the year here.
So, what you’ll see us use when commodity prices are in this $40, $50 WTI level is cost us callers. So, it gives us a good level of downside protection, but also upside participation as well. When we start seeing, WTI approach that $50-plus level there, you’ll see us use swaps to lock-in those economic returns. So, the objective between now and the end of the year is to get us to that 20% to 40% hedged for 2021.
Sounds good. Thanks, guys.
Thank you. Next question will be from Jeremy McCrea at Raymond James. Please go ahead.
Hi, guys. I got a couple questions here. The first one is, Grant, when you say, we need size and scale. Can you give a bit more — some more numbers around there? Like, do you think you need to be 100,000 BOE, 150,000 or just some kind of metrics?
And then also, if you can give a little bit more details on the Charlie Lake — number of locations you have, how much capital do you see shifting to this area and maybe actually even broader just where commodity prices are? How do you expect CapEx to shift throughout your place here versus say prior years?
Sure. Just regarding the — when we talk about size and scale, the reason we think about it in this context is that capital programs to be most efficient from an operating perspective, bringing a capital program rather than introducing one, well at a time into our capital program or one or two wells, we’d like to have a more consistent program over a, we’ll say, a six months to a one year period of time. And you’re able to do that. When we get to be of more size that we can put a program together in each one of the areas, with this lower pricing environment that we’re dealing with in the approximate $40 to $45 WTI oil price environment.
So, there’s that component from an operations perspective, which drives our efficiencies from a capital perspective, as well we think that the downstream marketing arrangements that we’re going to be entering into or need to entry into, you’re going to have to be larger in scale when you’re talking about eight to 21-year commitments on transportation that actually has the effect of bringing down your debt capacity.
So, whether that’s — we don’t have an absolute number, but what we can say is that we think at the 70,000 or 71,000 barrels a day where we are currently, we’re probably going to have to be at least two times outsize moving forward. That doesn’t select a certain 100,000 barrels a day or 120,000 or 150,000, but we do believe in order to attract investors, we have to demonstrate the long-term sustainability of our assets, as well as the way we’re running our program on a go forward basis. So, that’s the first part of your question on the Charlie Lake.
The — we’ve continued to add to that the number of locations we have. We added through that the acquisition 20 locations. And we are very active with adding additional locations in that — in and around our existing asset base in the deep basin. Much of our activity has been confidential in nature as to what we’ve been doing up there.
So, you asked about the question on whether we see a shift in capital. Well, we’re definitely see a shift in capital, because we don’t — we’re not spending any copper right now. But when we bring capital back and we’re anticipating that potentially in the fourth quarter, or maybe end of the first quarter of next year, and it is going to be commodity price dependent and what we’ll call a net realized price.
So, when we look at the return characteristic or return characteristics around the capital being deployed in each of the areas, yes, we anticipate putting more into the Peace River Arch than we have historically. But at these particular levels, we’re not bringing back capital at this particular time. So, we’ll make that decision as we move forward, if we see commodity prices come back to the levels of where we can get acceptable returns on the capital we deploy.
Okay. Thanks, Grant.
Thank you. Next question will be from Adam Gill at Eight Capital. Please go ahead.
Good morning. You guys identified $50 million of cost savings pretty quick into the downturn. Do you believe there’s any potential to expand on those cost savings through the back half of this year?
Yeah. So — this is Thanh here. The original savings that we identified that $50 million, $42 million of that was operating costs. $8 million of that was from a G&A perspective and that included the 10% reduction in management salaries here.
So, I think we’re pretty tight, I would say, from both an operating costs and a G&A. I mean, our G&A cost per BOE is $0.80 per BOE, which is one of the lowest amongst our peer group, if not the lowest. So, I don’t think there’s much room to move from that perspective.
On the operating cost side, there were some negotiations that we had to have with all of our service providers. And so, I think in a improving price environment that would be very difficult, I think, to reduce much further. If anything, our thoughts on that is about 25% to 30% of that, Adam, would be structural and permanent in nature. The rest — there’ll be a cost inflation factor associated with that, as well as increased activity levels will increase the operating cost as well.
Okay. Great. Thank you.
Thank you. [Operator Instructions]
And your next question will be from Chris Jones at Haywood. Please go ahead.
Hi. Good morning, everyone. So, the unrealized portion of the hedge book for Q2, a loss of $108 reported versus an unrealized gain of $149 million in Q1. So, there’s a bit of a differential there. And I’m assuming a good chunk of this is tied to improving oil prices. But can you sort of provide a high level walk through on some of your assumptions for crude that is embedded in that unrealized loss number?
Yeah. The — it’s really — that’s exactly what it is. It’s the change in commodity prices from March 31 to June 30 based on strip prices on those dates. So, you’re going to see — given the volatility here, big changes to our mark-to-market. We saw that on the crude oil hedges as well, but we also saw that on our total return swap working the other way, which provided unrealized hedging gain of $12.3 million. So, the change there is all commodity prices.
Okay. Great. Thanks.
Any further questions Mr. Jones?
No, I’m good. Thank you.
Thank you. At this time, gentlemen, we have no other questions registered. Please proceed.
Well, I just want to say thanks to each of you for your time and interest today in Whitecap Resources. As we conclude this quarterly earnings call, we hope you remain healthy and strong and have some time to enjoy the summer sunshine. All the best. Thanks again.
Thank you, sir. Ladies and gentlemen, this does indeed concludes your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines.