ARC Resources Q2 2024 Earnings Call Transcript

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Provided by Quartr
August 2, 2024

There are 8 speakers on the call.

Operator

Good morning. My name is Sylvie, and I will be your conference operator today. At this time, I would like to welcome everyone to the ARC Resources Second Quarter 2024 Earnings Conference Call. Note that all participant lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer Thank you.

Operator

Mr. Loucaud, you may begin your conference.

Speaker 1

Thank you, operator. Good morning, everyone, and thank you for joining us for our Q2 earnings conference call. Joining me today are Terry Anderson, President and Chief Executive Officer Chris Bibby, Chief Financial Officer Arman Jahangiri, Chief Operating Officer Lara Conrad, Chief Development Officer and Ryan Barrett, Senior Vice President, Marketing. Before I turn it over to Terry and Chris to take you through our Q2 results, I'll remind everyone that this conference call includes forward looking statements and non GAAP and other financial measures with the associated risks outlined in the earnings release and our MD and A. All dollar amounts discussed today are in Canadian dollars unless otherwise stated.

Speaker 1

Finally, the press release, financial statements and MD and A are available on our website as well as SEDAR. Following our prepared remarks, we'll open the line to questions. With that, I'll turn it over to our President and CEO, Terry Anderson. Terry, please go ahead.

Speaker 2

Thanks, Dale, and good morning, everyone. For the call today, I'm going to reflect on the quarter and speak to the outlook. We are laser focused on execution as the next few quarters will represent a significant positive change for the company with Hitachi Phase 1 coming on stream later this year. I'll then pass it over to Chris to go through the financial results and open the line for questions. 1st, in terms of our operational performance, Q2 was another strong quarter of execution.

Speaker 2

Production of 330,000 BOE per day was at the top end of second quarter guidance over a very busy period in terms of planned maintenance activities. Executing these is no easy task in my mind. It's an underappreciated strength of our people. To that end, the team did an excellent job completing major turnarounds across our assets all in the Q2. They were completed on schedule and on budget and most importantly safely.

Speaker 2

In total, roughly 140,000 hours were worked across the field this turnaround season with no recordable incidents. I'd like to thank our staff and contractors for their continued focus on safety and operational excellence. This was critical in providing operational momentum into the second half of the year. In terms of production, the base assets performed in line with our expectations. Sunrise was the exception, having greatly outperformed.

Speaker 2

Late last year, we changed the well design in the Upper Montney. We are now seeing the benefits, which has resulted in positive revision to our type curve. On a per well basis, these changes are expected to yield a 40% increase in natural gas production over the initial 12 month period with only a 25% increase in cost. Effectively, we are reducing the total number of wells and total capital spent to recover the same amount of resource. The net effect is a 10% reduction in sustaining capital at Sunrise annually and a lower breakeven.

Speaker 2

It's also worth highlighting these type curve changes will reduce the full cycle breakeven in the Upper Montney to approximately $1.10 per Mcf. As many of you know, Sunrise has a long inventory runway and is direct connected to LNG Canada, making it a great option for us to supply natural gas to the project beginning early next year. Turning to our capital investments. We executed an efficient program that focused on advancing Hitachi while remaining active at our condensate rich assets at Kakwa and Greater Dawson. This is expected to drive record condensate volumes for the organization by year end.

Speaker 2

At Hitachi, Phase 1 is on schedule and on budget with a project sitting at approximately 75% complete. As of today, the plant is nearing completion with the final and have completed and have completed 20. Electrification of the project at startup is on track with construction and installation of critical infrastructure complete and ready to be energized. And the liquids gathering lines and pipelines are on schedule and nearing completion. As one shareholder reminded me a while ago, the only percent complete staff that actually matters is 100% one.

Speaker 2

Therefore, we will not be complacent and we will remain focused on executing on our key deliverables for Phase 1. I look forward to providing another update in October and showing firsthand the progress we have made at this exciting growth project at our first ever investor tour at Hitachi. Moving on, I'd like to highlight a couple of key developments that are of strategic importance to ARC. The first was an agreement that was recently announced by the government of BC and the Halfway River First Nation, which included a landscape planning pilot that further derisked the long term development plan at Arc's Hitachi asset. The agreement outlines a new framework that will exempt ARC from the disturbance cap for Hitachi that was previously implemented under the Blueberry agreement.

Speaker 2

Under this landscape planning pilot, ARC will be the sole oil and gas producer exempt from the disturbance caps in this area. ARC's inclusion in this pilot is directly tied to our commitment to being best in class responsible energy producer and the strong relationship we have established with the Halfway River First Nation over the past 20 years. I'd like to thank Chief Hunter and counsel for their partnership. I'm truly proud of the collaborative efforts to advance responsible development in Northeast BC. Also last quarter, we witnessed the positive FID of Cedar LNG.

Speaker 2

In June, I had the opportunity to attend the celebration event and see firsthand the impact this project will have on Canada, BC and the Hasola Nation. This is an important project and one we are excited to be part of. ARC will deliver approximately 200,000,000 cubic feet per day of natural gas to the project, approximately half of the facility's capacity for a term of 20 years, which is anticipated to begin in late 2028. We continue to make excellent progress related to the sale and purchase agreement of the associated LNG offtake and are on track to have this completed by the end of this year. Together with the 2 other LNG agreements with Cheniere that take effect later this decade, Arc will meet our target of having approximately 25% of future natural gas supply physically delivered to and priced off of international prices.

Speaker 2

In the short term, we are operating in a cyclical bottom for natural gas, while condensate prices exceed CAD100 per barrel. With a balanced commodity mix and as the largest condensate producer in Canada, we have considerable flexibility to maximize the returns across our asset base. Arc is a very disciplined company focused on profitability over BOEs. With natural gas prices below $1 we have elected to shut in 250,000,000 cubic feet per day at Sunrise, which is our only dry gas asset. This represents about 18% of our natural gas production, which will be easily restored when prices recover.

Speaker 2

And while Sunrise has a cash breakeven of $0.65 per Mcf and is one of the lowest cost assets in North America, we are not meeting full cycle returns below $1 per Mcf. We have considerable operating momentum in our condensate rich assets at Greater Dawson, Kakwa and Itachi. Combined, these assets will drive record consate volumes for ARC by year end and through 2025. As we look out to the second half of the year and into 2025, everything within our control is working in our favor. We are focused as an organization on efficient execution and are getting very close to delivering a meaningful increase in profitability with the commissioning of our 1st phase at Hitachi.

Speaker 2

With that, I'll turn it to Chris.

Speaker 3

Thanks, Terry, and good morning, everyone. First on the quarter itself, 2nd quarter production of 330,000 BOEs per day and cash flow per share of $0.84 were both directly in line with our internal forecast and analyst expectations. Production was at the top end of the production range of 325,000 to 330,000 BOEs per day that was previously guided to for the 2nd quarter, while capital spending of $530,000,000 registered slightly below consensus and included $180,000,000 of investment at Hitachi as we advanced Phase 1. We expect that 2nd quarter production will be low print this year, reflecting all the scheduled maintenance that was concentrated in the quarter. We expect 4th quarter production to be about 17% higher at approximately 385,000 BOEs per day as we restore Sunrise production and get some contribution from Hitachi late in the year.

Speaker 3

Funds from operation in the second quarter was $503,000,000 Natural gas prices were low in both the U. S. And Canada, averaging $1.40 at AECO in Canada and $1.90@Henry Hub in the U. S. However, condensate averaged CAD 104 per barrel, contributing to an operating netback of CAD 18.50 dollars per BOE.

Speaker 3

This highlights both the low cost nature of our assets and the benefits of a diversified commodity mix that include a high proportion of condensate. The near term outlook for AECO remains challenged. However, we were fortunate enough to have the foresight to limit our exposure to AECO. With the production curtailment at Sunrise, we are able to use the optionality in our transportation portfolio to reduce our Station 2 volumes in BC to 0 and sell minimum volumes into AECO spot market throughout the rest of the summer. Extending our natural gas view out a few months, the fundamental outlook will be structurally different.

Speaker 3

Current prices will or certainly should, if people are acting rational, force shut ins or at a minimum slow activity. Later this year, Western Canada will experience a material increase in natural gas demand as LNG Canada ramps up, directing more than 10% of our current supply off the West Coast. As a result, we expect significant price volatility that will, at times need to be high enough to incent additional supply growth to backfill this incremental demand. Beyond the next few years, we would anticipate an incremental 2.5 to 3 Bcf per day of growth demand demand growth from LNG capacity over the subsequent 4 to 7 years from LNG Canada Phase 2, Woodfiber and Cedar LNG, all of which allocated capacity on existing pipelines. Moving on to capital returns.

Speaker 3

Through the 1st 6 months of the year, ARC has returned 115% of free cash flow to shareholders through share repurchases and dividends. On a quarter to quarter basis, this will fluctuate. On a full year basis, we expect to return essentially all free funds flow to shareholders similar to what we did in 2023. The amount of capital that we will return will materially increase beginning in the Q4 of this year with the completion of Hitachi Phase 1. Since September of 2021, when we initiated share buybacks, ARC has repurchased 132,000,000 shares at an average price of approximately $16 per share, representing 18% of the shares outstanding at that time.

Speaker 3

It was a good investment then, and we believe it remains a profitable investment today. We intend to once again renew our NCIB in September for an additional 10% of the public float. At quarter end, net debt increased slightly to $1,500,000,000 as capital investment plus dividends slightly exceeded our cash flow. This is in part due to the $180,000,000 invested at Hitachi combined with low gas prices and a heavy turnaround quarter. Park always has been and will remain a balance sheet first organization.

Speaker 3

We exited the quarter with net debt to cash flow of approximately 0.6 times trailing cash flow and approximately $1,300,000,000 of undrawn credit capacity. Finally, I'll wrap up with guidance and then turn it back to Terry. Production, cost and capital spending guidance in 2024 were all unchanged, inclusive of the natural gas shut ins at Sunrise. We anticipate full year production to average between 350,000 to 360,000 BOEs per day on an unchanged capital program of between 1.75 $1,850,000,000 Where average production falls in the range will be influenced by the duration of the natural gas shut ins at Sunrise with our current expectation to be at the lower end of the range. 4th quarter production, as Terry mentioned, is expected to average between 380,000,385,000 BOEs per day.

Speaker 3

Under this scenario, that would incorporate the restored gas production at Sunrise, condensate rich growth at Greater Dawson and Kakwa and some contribution from Attachit. As we look ahead to 2025 and beyond, ARC remains on track to achieving its goals of the long term plan introduced last year. In 2025, ARC shareholders will benefit from the 1st full year of Hitachi production, representing a 10% increase in our production with a commensurate decrease in capital spending. As a result, we would expect free funds flow to be approaching $3 per share at current strip pricing, which is planned to be returned to shareholders. In terms of how we return that free cash flow to shareholders, our view has not changed.

Speaker 3

We return all free cash flow to shareholders in the form of share repurchases and a growing base dividend. Balance sheet remains strong, so the need for debt repayment is low. Our business is bulletproof at the bottom of the cycle, and we return a deep inventory drilling deep drilling inventory in some of the most profitable assets in North America. So there's no requirement for M and A to backfill that inventory. We plan to disclose formal 2025 guidance in November with our Q3 results.

Speaker 3

With that, I'll turn it back to Terry for closing comments.

Speaker 2

Thanks, Chris. I want to close by highlighting the excitement in the organization about the positive momentum as we approach the back half of the year and think about 2025. We are realizing operational efficiencies across our assets and Hitachi is progressing as planned with first volumes later this year. Together, these milestones will drive a significant change in our business beginning later this year and extending well through the decade. Thank you to all our shareholders for your trust as we execute the plan.

Speaker 2

With that, thank you and we can open the line up for questions.

Operator

Thank you, sir. Your first question will be from Josh Silverstein at UBS. Please go ahead.

Speaker 4

Yes, thanks. Good morning, guys. Now that we're getting closer to the start up of Hitachi, I just wanted to see if you can walk through a little bit more details as to how the ramp looks. Is there does condensate start before gas or vice versa or does everything kind of come online together through kind of read through the Q1? Thanks.

Speaker 3

I can grab it. Thanks, Josh, for the question. Chris here. So as we've kind of been hinting at here, we would expect the ramp period to actually occur late 2024, so that we will effectively be running Hitachi Phase 1 in Q1 of 2025 effectively full. So late 2024, we'll ramp it and then keep it flat throughout Q1 of 2025.

Speaker 4

Got you. And then, Chris, you mentioned some comments there as far as the balance sheet and then the return of capital profile. I imagine maybe there is some debt reduction you want to do in the back half of this year, but as you get that free cash flow inflection, do you think about 100% of free cash flow going towards shareholder returns? Or do you actually want to build some cash for the next investment phase of Hitachi?

Speaker 3

Yes. So what we do is we look at it on an annual basis. So effectively kind of like a 12 month payout period. And we say essentially all free cash flow going back to shareholders on an annual basis. So we've accumulated a little bit of debt here in the first half of the year.

Speaker 3

So the intention would be by the end of the year, shortly thereafter, we'll balance that out so that on an annual basis, payout will be very close to 100%. And then as we roll forward in the next couple of years, we're more than comfortable to use our balance sheet to develop these assets. So we will maintain that effectively, essentially all free cash flow going back to shareholders going forward. Great. Thanks, Chris.

Speaker 3

Thank

Operator

And your next question will be from Patrick O'Rourke at ATB Capital. Please go ahead.

Speaker 5

Hey guys, good morning and thank you for taking my question here. Just a couple of quick things. So Q2 twenty twenty four production looks to be sort of the lowest level that we've seen since the acquisition of 7 Gen back in 2021, obviously due to planned turnaround activity. If you guys could maybe sort of elaborate on the turnaround that took place and then maybe sort of from a cycle perspective when we can expect turnaround activity in the same order of magnitude going forward or how often you expect this these level of turnarounds to happen going forward?

Speaker 6

Patrick, Armin here. So the turnaround is really a maintenance activity that we do, let's say, every 3 to 4 years. It's really subject to the facility and what we discover in the previous turnaround activities. For large facilities, expectation is to see turnaround to this level of magnitude every 3 to 4 years. So to really say the impact on production is, I guess, subject to the year because you have to look at what level of activity you happening at that year and how do they overlap with each other.

Speaker 6

I think it is important to note that these are important activities to make sure that we maintain our production from the integrity of the assets.

Speaker 5

Yes, thanks for that. And obviously, turnarounds are very important. Second question, you spoke to sort of the ramp on Hitachi, but in the press release, you talked to being about 75% complete from an operational perspective of the build out of the facility and everything that needs to go on there. Can you maybe walk us through sort of what the remaining steps and milestones are before commissioning?

Speaker 6

Yes, Patrick, Armin here again. So most of the mechanical work is done. So 75% is really a judgment number that we are using currently for the state of the project. Most of the mechanical work is done, like maybe 90%, 95 percent. As Terry said, all the critical equipment is on location.

Speaker 6

So the bulk of activity at this point is focused on electrical and instrumentation work to really get the plant to the level that we can start commissioning in Q4. Okay. Thank you.

Operator

Thank you. Next question will be from Jamie Kubik at CIBC. Please go ahead.

Speaker 7

Yes. Good morning and thank you for taking my question. With respect to the shut ins at Sunrise, a couple of questions on that. Can you just talk about maybe the price sensitivity of when you would maybe look to bring those volumes back online? And then also with respect to the 250,000,000 cubic feet a day is shut in, Arc produced 360,000,000 cubic feet a day there in Q2.

Speaker 7

Can you just talk about the remaining volumes and how you're thinking about price sensitivity on those? Thank you.

Speaker 3

You bet, Jamie. It's Chris here. I'll take a stab and see if anybody has anything to add. But in terms of pricing, and that's why in the release we did highlight and Terry mentioned as well, dollars 0.65 roughly cash operating costs. And then the other metric we wanted to have out there was the roughly $1.10 ish breakeven on it.

Speaker 3

So it kind of gives you an idea of where we're thinking. We've said repeatedly that we don't care about BOEs and we want to add value. So if we're not adding value, we're not going to give away the molecules. It does have a small added benefit of being able to defer some capital going forward if we're not producing the molecules now. So what's going to happen is as we go forward, we would expect AECO and the Western Canadian market to normalize to more reasonable price levels.

Speaker 3

There's no one specific dollar amount that we've decided we're going to bring this production back. It will be about the context of the market at the time. So what's happening on the supply demand and where are inventories as we make that decision? I it wouldn't help our pricing if as soon as we bring Sunrise back on, pricing goes way back down again. So that's one of the factions.

Speaker 3

And then the other one on how was 250 the right number? Realistically, what we're trying to do is limit our exposure to the Western Canadian market and focus on the downstream markets. So you heard me mention, we've got no exposure to Station 2, which is even weaker than AECO. And we're limiting our cash exposure. We've got less than $100,000,000 a day exposed to AECO cash at this time.

Speaker 3

And we always need a little bit of flexibility and have some gas flowing, but that's kind of what we're doing is trying to limit the Western Canadian exposure and focus on the downstream. And the reason we've kind of also chose to leave gas flowing through the facility, things change very quickly. AECO is a relatively small market in terms of a few 100,000,000 a day can really move the needle on the supply demand. So we want to be able to wrap this facility back up relatively quickly when we see the right price signals that it makes sense to do so.

Speaker 7

Okay. That's good color. That's the only question I had. Thank you.

Speaker 3

Thanks, Jamie.

Operator

And at this time, Mr. Lucot, we have no other questions registered. Please proceed.

Speaker 1

Great. Thank you, everyone, for joining the call. That concludes the call. Have a good weekend.

Operator

Thank you, sir. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines.

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Earnings Conference Call
ARC Resources Q2 2024
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