RESULTS AT A GLANCE
|Three Months Ended||Nine Months Ended|
|September 30||September 30|
|FINANCIAL ($000s, except as noted)||2018||2017||Change||2018||2017||Change|
|Royalty and other revenue||40,815||33,938||20||%||120,334||113,459||6||%|
|Per share, basic and diluted ($)||0.07||–||–||0.15||0.17||-12||%|
|Funds from operations||35,900||27,927||29||%||102,824||91,765||12||%|
|Per share, basic ($)||0.30||0.24||25||%||0.87||0.78||12||%|
|Operating income (1)||39,225||31,246||26||%||115,214||103,565||11||%|
|Operating income from royalties (%)||99||99||–||99||95||4||%|
|Working interest dispositions||1||2,969||–||8,138||32,065||-75||%|
|Per share ($) (2)||0.1575||0.15||5||%||0.47||0.43||9||%|
|Shares outstanding, period end (000s)||118,348||118,128||–||118,348||118,128||–|
|Average shares outstanding (000s) (3)||118,293||118,073||–||118,239||118,016||–|
|Royalty production (boe/d) (4)||10,322||10,919||-5||%||10,854||10,964||-1||%|
|Total production (boe/d) (4)||11,002||12,036||-9||%||11,572||12,456||-7||%|
|Oil and NGL (%)||54||56||-4||%||54||56||-4||%|
|Average price realizations ($/boe) (4)||38.95||29.67||31||%||36.76||32.54||13||%|
|Operating netback ($/boe) (1) (4)||38.74||28.22||37||%||36.47||30.46||20||%|
(1) See Non-GAAP Financial Measures.
(2) Based on the number of shares issued and outstanding at each record date.
(3) Weighted average number of shares outstanding during the period, basic.
(4) See Conversion of Natural Gas to Barrels of Oil Equivalent (boe).
Stronger crude prices and lower cash costs drove third quarter growth in Freehold’s funds from operations. Reflecting lower volumes year to date, we are revising our 2018 production guidance by 4% to a range of 11,250-11,500 boe/d. Reduced volumes are associated with lower third-party production additions, natural gas and heavy oil curtailments and fewer audit recoveries. We will continue to monitor industry activity and will provide 2019 guidance as part of our fourth quarter results.
Looking forward, we anticipate some near-term headwinds associated with Canadian energy, however, many of our prospects are light oil opportunities in Saskatchewan where pricing is better. As we saw in Q3-2018, we see more industry drilling occurring where there are lighter oil opportunities and the economics are superior.
As we have for the past 22 years, we will continue to strive to preserve our balance sheet and maintain an attractive dividend, thus providing investors with a lower risk oil and gas investment.
President and CEO
The Board has declared a dividend of $0.0525 per common share to be paid on December 17, 2018 to shareholders of record on November 30, 2018. The dividend is designated as an eligible dividend for Canadian income tax purposes.
2018 Third Quarter Highlights
Freehold delivered strong financial results in the third quarter of 2018. Highlights included:
- Funds from operations totaled $35.9 million, an increase of 29% compared to Q3-2017 and 4% versus the previous quarter. Higher funds from operations was largely driven by better oil and natural gas liquids (NGL) prices. On a per share basis, funds from operations was $0.30/share in Q3-2018 up from $0.24/share in Q3-2017 and $0.29/share in Q2-2018.
- Freehold’s royalty production averaged 10,322 boe/d, down 5% versus Q3-2017 and 7% when compared to Q2-2018. Reduced volumes are associated with lower third-party production additions, natural gas and heavy oil curtailments and fewer audit recoveries (75 boe/d in Q3-2018 versus 700 boe/d in Q3-2017). Historically, we have seen a slight drop in royalty production from Q2 to Q3 with a rebound in Q4.
- Royalty interests accounted for 94% of total production and contributed 99% of operating income in Q3-2018.
- Working interest production declined 39% to 680 boe/d in Q3-2018 relative to Q3-2017 largely due to dispositions, in-line with our strategy.
- Wells drilled on our royalty lands totaled 175 (6.3 net) in the quarter compared to 144 (6.4 net) in Q3-2017. Approximately 80% of non-unit activity was focused on our gross overriding royalty lands (GORR) lands while approximately 20% targeted prospects on our mineral title land. For the first nine months of 2018, 499 gross (13.9 net) wells have been drilled, compared to 352 gross (16.6 net) during the same period last year.
- Freehold generated $16.4 million in free cash flow (1), over and above our dividend, which we applied to acquisitions completed during the quarter. At September 30, 2018, net debt totaled $78.7 million resulting in a net debt to funds from operations ratio of 0.6 times.
- Freehold allocated $17.9 million towards acquisition activities in Q3-2018. In August, Freehold closed the purchase of 64,000 acres of royalty lands with approximately 90 boe/d of production (one-third oil and NGL) across central Alberta and the Deep Basin for $5.9 million and the assignment of certain minor working interest assets. In September, Freehold closed the purchase of a GORR across 109,000 acres of land with prospectivity for the Clearwater formation in the Jarvie and Nipisi areas of Alberta for $12 million.
- In Q3-2018, Freehold issued 19 new lease agreements with 13 companies, compared to 18 issued in Q2-2018 and 30 leases in Q3-2017, highlighting the success of our leasing team. To September 30th in 2018 (YTD) we have completed 95 new lease agreements on our royalty lands. Since the inception of our leasing team in January 2017 we have completed 195 new lease agreements.
- Cash costs (1) for the quarter totaled $4.46/boe, down from $4.80/boe in Q3-2017. For 2018, we are forecasting cash costs of approximately $5.00/boe.
- Dividends declared for Q3-2018 totaled $0.1575 per share, up 5% versus the previous year. In March 2018, Freehold announced an increase to its monthly dividend from $0.05 to $0.0525 per share commencing in April 2018.
- Basic payout ratio (1) (dividends declared/funds from operations) for Q3-2018 totaled 52% while the adjusted payout ratio (1) ((cash dividends plus capital expenditures)/funds from operations) for the same period was 54%.
(1) See Non-GAAP Financial Measures
Including drilling associated with acquisitions and unit wells, 499 (13.9 net) wells were drilled on our royalty lands during the first nine months of 2018. This represents an increase of 42% on a gross basis and a 16% decline on a net measure versus the same period in 2017. As typical in the third quarter, we saw a rebound in activity on our royalty lands relative to Q2-2018.
Activity through the first nine months of 2018 was primarily focused on Saskatchewan oil projects. Drilling in the Viking at Dodsland and Mississippian carbonates in southeast Saskatchewan continue to lead activity in Saskatchewan. In Alberta, Cardium oil drilling continues to drive activity, with a recent uptick in Viking Oil development. In Q3-2018 19 gross Alberta Viking oil wells were drilled on our lands compared with six in the entire first half of 2018. Industry drilled 131 gross wells on our non-unit lands in Q3-2018 (299 YTD) and 44 wells on our unit lands (200 YTD). 27 of those non-unit drills were on title land and 104 were on GORR lands. Our top payors continue to represent some of the most well capitalized E&P companies in Canada.
ROYALTY INTEREST DRILLING
|Three Months Ended September 30||Nine Months Ended September 30|
|Gross||Net (1)||Gross||Net (1)||Gross||Net (1)||Gross||Net (1)|
|Unitized wells (2)||44||0.2||23||0.1||200||0.8||56||0.3|
(1) Equivalent net wells are the aggregate of the number obtained by multiplying each gross well by our royalty interest percentage.
(2) Unitized wells are in production units wherein we generally have small royalty interests in hundreds of wells.
Below are details of some of the changes made to our key operating assumptions for 2018 based on results for the first nine months of the year and expectations for the remainder of the year.
- We are revising our 2018 average production range downwards by 4% to 11,250-11,500 boe/d (previously 11,750-12,250 boe/d). There has been lower than expected production from royalty drilling, lower than typical additions from our audit function and production curtailments associated with weakness in natural gas and heavy oil pricing. Volumes are expected to be weighted approximately 54% oil and NGL and 46% natural gas. We continue to maintain our royalty focus with royalty production accounting for 94% of forecasted 2018 production and 99% of operating income.
- We are maintaining our 2018 drilling forecast of 20 net wells.
- We are maintaining our WTI oil price assumption of US$65.00/bbl. However, we have reduced our WCS price assumption to $50.00/bbl (previously $55.00/bbl) and our Edmonton Light Sweet price assumption to $70.00/bbl (previously $76.00/bbl), reflecting higher differentials caused by increasing Canadian production levels and limited takeaway capacity.
- We have reduced our AECO natural gas price assumption to $1.55/mcf (previously $1.75/mcf) reflecting lower than expected prices to date.
- Based on our current $0.0525/share monthly dividend level, we expect our 2018 adjusted payout ratio ((cash dividends plus capital expenditures)/funds from operations) to be approximately 64% (previously 55%).
- General and administrative costs remain at $2.50/boe.
- We have increased our forecast year-end net debt to funds from operations to approximately 0.8 times due to acquisitions completed and revisions to our production and pricing guidance.
Key Operating Assumptions
|2018 Annual Average||Nov. 14, 2018||Aug. 2, 2018||May 9, 2018||Mar. 8, 2018|
|Total daily production||boe/d||11,250-11,500||11,750-12,250||11,750-12,250||11,750-12,250|
|West Texas Intermediate crude oil||US$/bbl||65.00||65.00||65.00||60.00|
|Edmonton Light Sweet crude oil||Cdn$/bbl||70.00||76.00||76.00||N/A|
|Western Canadian Select crude oil||Cdn$/bbl||50.00||55.00||53.00||45.00|
|AECO natural gas||Cdn$/Mcf||1.55||1.75||1.75||2.00|
|General and administrative costs (1)||$/boe||2.50||2.50||2.50||2.50|
|Weighted average shares outstanding||millions||118||118||118||118|
(1) Excludes share based compensation.
Recognizing the cyclical nature of the oil and gas industry, we continue to closely monitor commodity prices and industry trends for signs of changing market conditions. We caution that it is inherently difficult to predict activity levels on our royalty lands since we have no operational control. As well, significant changes (positive or negative) in commodity prices (including Canadian oil price differentials), foreign exchange rates, or production rates may result in adjustments to the dividend rate.
Based on our current guidance and commodity price assumptions, and assuming no significant changes in the current business environment, we expect to maintain the current monthly dividend rate through the next quarter. We will continue to evaluate the commodity price environment and adjust the dividend levels as necessary (subject to the quarterly review and approval of our Board of Directors).
Conference Call Details
A conference call to discuss financial and operational results for the period ended September 30, 2018 will be held for the investment community on Thursday, November 15, 2018 beginning at 7:00 am MT (9:00 am ET). To participate in the conference call, approximately 10 minutes prior to the conference call, please dial 1-800-806-5484 (toll-free in North America), participant access code 5263079#.
Availability on SEDAR
Freehold’s 2018 third quarter interim unaudited condensed consolidated financial statements and accompanying Management’s Discussion and Analysis (MD&A) are being filed today with Canadian securities regulators and will be available at www.sedar.com and on our website at www.freeholdroyalties.com.