RESULTS AT A GLANCE
|Three Months Ended||Six Months Ended|
|June 30||June 30|
|FINANCIAL ($000s, except as noted)||2019||2018||Change||2019||2018||Change|
|Royalty and other revenue||35,333||39,961||-12||%||70,942||79,118||-10||%|
|Net income (loss)||3,430||5,386||-36||%||(3,649||)||9,809||-137||%|
|Per share, basic and diluted ($)||0.03||0.05||-40||%||(0.03||)||0.08||-138||%|
|Funds from operations||30,095||34,540||-13||%||59,443||66,924||-11||%|
|Per share, basic ($)||0.25||0.29||-14||%||0.50||0.57||-12||%|
|Acquisitions and related expenditures||30,313||3,516||762||%||31,242||35,912||-13||%|
|Per share ($) (1)||0.1575||0.1575||–||0.3150||0.3100||2||%|
|Shares outstanding, period end (000s)||118,513||118,293||–||118,513||118,293||–|
|Average shares outstanding (000s) (2)||118,458||118,238||–||118,431||118,211||–|
|Royalty production (boe/d) (3)||10,311||11,052||-7||%||10,226||11,124||-8||%|
|Total production (boe/d) (3)||10,664||11,721||-9||%||10,646||11,860||-10||%|
|Oil and NGL (%)||55||54||2||%||55||54||2||%|
|Average price realizations ($/boe) (3)||35.88||36.96||-3||%||36.08||35.73||1||%|
|Operating netback ($/boe) (3) (4)||35.36||35.94||-2||%||35.79||35.39||1||%|
(1) Based on the number of shares issued and outstanding at each record date.
(2) Weighted average number of shares outstanding during the period, basic.
(3) See Conversion of Natural Gas to Barrels of Oil Equivalent (boe).
(4) See Non-GAAP Financial Measures.
The second quarter marked another strong period for Freehold as we were able to provide a sustainable dividend and per share production growth quarter-over-quarter while remaining opportunistic with acquisitions. Royalty production averaged 10,311 boe/d for the quarter, a 2% improvement versus the previous quarter as strong activity through the first half of 2019 drove volume growth. Funds from operations for the quarter totaled $30.1 million or $0.25/share, comfortably ahead of current dividend levels of $0.1575/share and at the low end of our payout range.
Freehold completed $30.3 million in acquisitions over the quarter. We acquired a diversified royalty package with near-term growth driven by a Canadian intermediate with planned multi-year drilling on the lands. Subsequent to quarter-end, we also completed our first royalty acquisition in the United States which should provide Freehold an additional 200 boe/d in production by year-end 2019.
It is our objective to drive oil and gas development on our lands, generate per share production growth, acquire royalties with acceptable growth and risk profiles and provide a sustainable dividend to our shareholders. During the quarter, we have achieved these mandates.
President and CEO
The Board has declared a dividend of $0.0525 per common share to be paid on September 16, 2019 to shareholders of record on August 31, 2019. The dividend is designated as an eligible dividend for Canadian income tax purposes.
2019 Second Quarter Highlights
- Dividends declared for Q2-2019 totaled $0.1575 per share, unchanged from Q2-2018 and Q1-2019.
- Our payout ratio (1) (dividends declared/funds from operations) for Q2-2019 totaled 62%, compared to 64% in the previous quarter and 54% in Q2-2018.
- Freehold’s royalty production averaged 10,311 boe/d during Q2-2019. This represents a 7% decrease over Q2-2018 while increasing 2% from the previous quarter. Growth in volumes sequentially was driven by increased third-party drilling.
- Royalty interests accounted for 97% of total production and contributed 100% of operating income (1) in Q2-2019.
- Q2-2019 funds from operations totaled $30.1 million, or $0.25 per share, representing an increase of 3% compared to Q1-2019. Quarter-over-quarter funds from operations was relatively unchanged as the decrease in natural gas pricing was offset by production growth and strength in oil prices.
- Current quarter free cash flow (1) also equaled $30.1 million, a decrease of 13% compared to Q2-2018. Using Freehold’s closing share price as at June 30, 2019 of $8.47, this represents an annualized free cash flow yield of 12% based on the average shares outstanding in the quarter.
- Net income for Q2-2019 was $3.4 million versus $5.4 million in Q2-2018 and a $7.1 million net loss in Q1-2019. Earnings in the previous quarter was impacted by a non-recurring impairment charge of $14.1 million offset by a related deferred tax recovery of $3.8 million.
- Exited Q2-2019 with net debt totaling $98.3 million, representing an increase of $20.8 million from the previous quarter. The increase in leverage quarter-over-quarter reflects acquisitions completed during the quarter.
- On June 28, 2019, Freehold closed a $30 million acquisition of a gross overriding royalty (GORR), with drilling commitments on the part of the vendor on certain light and medium oil reservoirs in central and northern Alberta and southwest Saskatchewan. At the time of closing, the properties collectively were producing 214 boe/d with 94% of production being liquids. Annualized funds from operations in 2019 under actual and strip pricing associated with the acquired assets is estimated at $3.8 million.
- Wells drilled on our royalty lands totaled 127 (2.9 net) in the quarter compared to 85 (1.2 net) in Q2-2018. We saw strong activity levels associated with our light oil portfolio, particularly in the Viking in Saskatchewan and Alberta, and Mississippian plays in southeast Saskatchewan.
- In Q2-2019, Freehold issued 16 new lease agreements with 13 companies, compared to 20 leases issued in Q1-2019 and 18 leases issued in Q2-2018.
- Cash costs (1) for the quarter totaled $5.05/boe, down from $6.39/boe in Q1-2019 and proximal to $4.99/boe in Q2-2018.
- Our inaugural environmental, social, and governance (ESG) report has been published and is available on our website.
(1) See Non-GAAP Financial Measures.
United States Entry and Subsequent Event
Subsequent to June 30, 2019, through its newly incorporated subsidiary Freehold Royalties (USA) Inc., Freehold closed a US$9.8 million acquisition of certain royalty assets located in North Dakota, United States. As part of this transaction, a US$0.5 million acquisition deposit was paid in June 2019. Production and funds from operations in 2020 associated with the acquired assets is forecasted to be approximately 200 boe/d and US$2.3 million, respectively.
We have deliberately and pragmatically developed our U.S. entry strategy, which will initially focus on selective royalty opportunities in the Williston basin. We understand the Williston basin geology and play types very well as it is an extension of the Bakken/Three Forks plays on our existing southeast Saskatchewan royalty acreage.
In the first six months of 2019, 274 (10.2 net) wells were drilled on our royalty lands. Of these, 127 (2.9 net) wells were drilled in the second quarter of 2019. This represents a 34% improvement on a net measure and a 15% decrease on a gross measure over the same period in 2018. Typically, the second quarter represents a period of slowed drilling activity, however activity on our royalty lands outpaced expectations, particularly when compared to the same period in 2018.
Activity through the first six months of 2019 was evenly distributed across our royalty lands. Saskatchewan and Manitoba activity focused on oil prospects, including the Viking in west central Saskatchewan (71 gross wells), Mississippian plays in southeast Saskatchewan and southwest Manitoba (47 gross wells), and Cantuar and Shaunavon in southwest Saskatchewan (19 gross wells). Together, Saskatchewan and Manitoba wells represented approximately 51% of our gross drilling in the first half of 2019. Alberta activity has again been concentrated in the Viking in east central Alberta (74 gross wells), as well as the Cardium in west Alberta (25 gross wells). Moderate activity continues for Mannville oil plays throughout the basin (13 gross wells). We continue to see activity emerging in the Duvernay and Clearwater, with 12 gross wells drilled between these two new plays in the first half of 2019. Our top payors continue to represent some of the most well capitalized upstream companies in Canada.
ROYALTY INTEREST DRILLING
|Three Months Ended June 30||Six Months Ended June 30|
|Gross||Net (1)||Gross||Net (1)||Gross||Net (1)||Gross||Net (1)|
(1) Net wells are the equivalent aggregate of the number obtained by multiplying each gross well by our royalty interest percentage.
2019 Guidance Update
Below are details of some of the changes made to our key operating assumptions for 2019 based on results for the second quarter and expectations for the remainder of the year.
- We are increasing our 2019 average royalty production range to 10,000 boe/d to 10,500 boe/d (previously 9,900 boe/d to 10,300 boe/d). Volumes are expected to be weighted approximately 55% oil and natural gas liquids and 45% natural gas. We continue to maintain our royalty focus with royalty production accounting for 96% of forecasted 2019 production and virtually all of our operating income.
- We are lowering our expected oil price assumptions for WTI to US$57.50/bbl (previously US$62.50/bbl) and for Edmonton Light Sweet prices to $66.00/bbl (previously $71.00/bbl). Our C$/US$ currency exchange assumption remains at US$0.75 per Canadian dollar.
- Our 2019 AECO natural gas price assumption remains at $1.60/mcf.
- Based on our current $0.0525/share monthly dividend level, we expect our 2019 payout ratio (dividends declared/funds from operations) to be 60% to 65% (previously 60%).
- General and administrative costs remain at $3.00/boe reflecting lower costs in the second to fourth quarters versus the first quarter rate.
- Due to the revision in our commodity price assumptions and factoring in acquisition activity, we currently estimate year-end net debt to funds from operations to exit 2019 at approximately 0.8 times (up from 0.3 times).
Key Operating Assumptions
|2019 Annual Average||Aug. 1, 2019||May 7, 2019||Mar. 7, 2019|
|Royalty production (excludes working interest production)||boe/d||10,000-10,500||9,900-10,300||9,900-10,300|
|West Texas Intermediate crude oil||US$/bbl||57.50||62.50||55.00|
|Edmonton Light Sweet crude oil||Cdn$/bbl||66.00||71.00||61.00|
|AECO natural gas||Cdn$/Mcf||1.60||1.60||1.60|
|General and administrative costs||$/boe||3.00||3.00||3.00|
|Weighted average shares outstanding||millions||119||119||119|
Recognizing the cyclical nature of the oil and gas industry, we continue to closely monitor commodity prices and industry trends for signs of deteriorating 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 June 30, 2019 will be held for the investment community on Friday, August 2, 2019 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 1-800-696-5894 (toll-free in North America) participant passcode is 6745430#.
Availability on SEDAR
Freehold’s 2019 second 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.