Canadian Natural Resources Limited
Q1 2016 Earnings Call Transcript

Published: 5 May 2016

[Operator:]

Good morning ladies and gentlemen, and welcome to the Canadian Natural Resources' Q1 2016 Earnings Call. After the presentation, we will conduct a question-and-answer session. Instructions will be given at that time. Please note that this call is being recorded today, May 5, 2016 at 8 o'clock AM Mountain Time. I would now like to turn the meeting over to your host for today's call, Mark Stainthorpe, Director, Treasury and Investor Relations of Canadian Natural Resources. Please go ahead, Mr. Stainthorpe.

[Mark A. Stainthorpe:]

Thank you, Dan. Good morning and thank you for joining our first quarter 2016 conference call, where we will discuss our operational and financial results. With me this morning are Steve Laut, our President; Tim McKay, our Chief Operating Officer; and Corey Bieber, our Chief Financial Officer. Before we begin, I'd like to refer you to the comments regarding forward-looking information contained in our press release and also note that all amounts are in Canadian dollars and production and reserves are expressed as before royalties unless otherwise stated. I'll now pass the call over to Steve.

[Steve W. Laut:]

Good morning, everyone, and thank you, Mark. Before I start this morning, let me comment briefly on the forest fires in Fort McMurray and the significant impact on the residents of Fort McMurray. We are working to ensure that (1

[Tim S. McKay:]

Thank you, Steve. Good morning everyone. I will now do a brief overview of our assets. Starting with natural gas, our first quarter volumes of 1.786 Bcf a day was an increase of approximately 5% from Q4 2015. Quarter volumes were reduced by 40 million a day as gas properties were shut-in due to low commodity prices and third-party pipeline restrictions. As well, an additional 22 million a day were shut-in due to the third-party plant issue in British Columbia. Those issues continue in Q2 and are reflected in our guidance. With the low natural gas prices, we are targeting to shut-in an additional 40 million a day by the end of 2016. Primarily these properties are related to high processing contract in British Columbia. As contracts come up for renewal, we will either shut-in the gas or negotiate lower fees that makes sense for long-term pricing. We have done a good job in reducing our North American natural gas operating cost by 14% when comparing Q1 2016, Q1 2015. While this is a good result, we're looking to further reduce our costs in 2016. Our annual corporate natural gas guidance is 1.725 Bcf per day to 1.785 Bcf per day. Our North American light oil and NGL in Q1 2016 was approximately 90,000 barrels a day flat to Q4 2015. And we're targeting to keep this production relatively flat for 2016. In all areas, we continue to optimize water flood, stimulate wells, and leverage the technology to maintain our volume. As well, we continue to drive operating costs down by 21% when comparing Q1 2016 to 2015 with current operating cost of $12.87 per barrel. At both Espoir and Baobab, the drilling programs have been very successful exceeding our original sanction volumes while incurring lower development cost. At Espoir, only six producers and one injector were completed out of the original 10 well program. However, the seven-well program delivered approximately 6,900 BOE/d versus 5,900 BOE/d (10

[Corey B. Bieber:]

Thank you, Tim, and good morning everyone. I will go through a few financial highlights of the first quarter 2016 results. Despite exceptionally low WTI pricing of about $33.50, we still earned positive netbacks in each of our Canadian E&P product line. This, as Tim pointed out, was achieved through continually driving cost efficiencies and reduction throughout our business. At Horizon, operating cost of $26.55 reflected high utilization rates and further cost efficiencies. G&A cost further reduced to $1.14 per BOE reflecting cost synergies and strong team effort to reduce costs. We managed our capital and maintained the dividend and as Steve pointed out maintained our investment-grade ratings. Cash flows of $657 million cover the vast majority of the capital program which is designed to support completion of Horizon Phase 2B in just five months. During the first quarter, UK government enacted legislation to reduce PRT rates from 35% to nil effective January 1, 2016. The net impact of this was a non-cash deferred PRT tax pickup of $114 million. UK government also announced its intension to reduce the supplementary tax charge rate from 20% to 10%. As a result of these changes the effective tax rate for PRT paying fields will reduce from the 81% level of past years to above 40% and the non-PRT paying fields reduce from 62% level to about 40% as well. In looking at the remainder of 2016, the strengthening of WTI and heavy oil pricing will have a positive impact on cash flows. This will be somewhat tempered by weak Canadian natural gas prices as well as the increasing strength of the Canadian dollar. This Canadian dollar strength will however also reduce the carrying value of our U.S. dollar debt. As a result of these forces, today we target net debt to over book capitalization to exit 2016 at just under the 40% range and the debt-to-EBITDA exit at around four times. Both significantly below the estimates we targeted in the March update. These estimates were based on a strip price of $43.88 WTI, $1.74 (18

[Steve W. Laut:]

Thanks, Corey. 2016 is a milestone year for Canadian Natural. Our transition to a long-life low-decline asset base is coming to completion. Our corporate decline rates are reduced, our maintenance capital costs are low relative to typical E&P companies. As a result, Canadian Natural becomes stronger and more robust With Q4 2016 cash flow covering capital and dividends at $30 WTI, well below strip, and the current strip of $48 (20

[Operator:]

Your first question comes from the line of Phil Gresh from JPMorgan. Phil, your line is open.

[Philip M. Gresh:]

Hey, good morning. First question is for Corey. The leverage targets that you are now giving for year end, I was just curious number one, does that include any kind of monetization of the cross currency swaps or is that something that would be incremental and then, if you take that and roll it forward to the leverage targets you talked about on the fourth quarter call as we look out to say 2018, does that lower starting point in any way pull forward when you will get to the target you want to get to?

[Corey B. Bieber:]

Thanks, Phil; good question. The cross currency swap monetization is not included in that year end forecast that is strictly a function of lower debt because of the stronger Canadian dollar and much stronger EBITDA because of increased – improved WTI and lower operating costs. So that is the two forces there. It does accelerate when we get back into our range by 2018 that will be a few quarters earlier than we had originally targeted.

[Philip M. Gresh:]

Okay. And then in terms of the operating cost targets, just the comment that the oil sands operating cost could be conservative at $25. I mean rough order of magnitude how much lower are you thinking these could be if you're executing on all cylinders?

[Steve W. Laut:]

Thanks, Phil. I think that's a difficult question obviously we are $26.55 here in the fourth quarter and about 128,000 barrels a day, 129,000 barrels a day, so when you get to 182,000 barrels a day, most of the costs are fixed so you can almost ratio, but not quite because mining is linear with production. So we think we will be down well below $25 getting closer to that $20 range, but we'll wait and see how it all shapes out first.

[Philip M. Gresh:]

Okay. And then just in terms of the M&A priorities, obviously it's fourth on the list, but maybe if you could just talk about oil versus gas geographies, just how you think about the portfolio and what you might want to do longer term?

[Steve W. Laut:]

I think for acquisitions, our view is – we don't have any gas in our portfolio. So that has to be purely opportunistic, and they have to add value, and they have to make sense, so that likely means it's going to fit in with our core areas. We have no bias towards oil or gas. We are strictly focused on value growth. But again, as I said, we don't have any gas in our portfolio, so it's not a big priority for us.

[Philip M. Gresh:]

Sure, okay. I'll turn it over. Thank you.

[Operator:]

Your next question comes from the line of Neil Mehta of Goldman Sachs. Neil, your line is open.

[Neil Mehta:]

Good morning, guys.

[Steve W. Laut:]

Good morning.

[Tim S. McKay:]

Good morning.

[Neil Mehta:]

Want to kick it off on these industry-wide production outages in Alberta due to some of the tragic events around the wildfires. Do you guys have an early read, in terms of how much production is out in Alberta? And then, any thoughts on the near term impacts on things like the differentials?

[Steve W. Laut:]

I don't think we have a really good read what the other operators are doing. We know where we are. We've had some small outages, just around sort of pipeline stoppages, but overall, we haven't seen much in terms of the oil sands. Our operations are steady, as I said earlier. 78% of our staff is fly-in, fly-out, so we're able to get in and out, and it hasn't affected us that much. That being said, we are reliant on power, electric power, and so if the fire knocks out power, then we would be down to internally generated power. At that rate, we'd probably be in that 70,000 barrel a day range, versus 130,000 barrel a day to 135,000 barrel a day, so that could be the impact. Right now, we think we're okay. There is other fires across the province that are impacting some of our gas production and so potentially, we could have about 32 million a day offline, and maybe another 900 barrels a day of NGLs.

[Neil Mehta:]

Appreciate that. And then, just a comment on the regulatory environment in Alberta; it looks like, since the last time we talked, we've gotten a little bit more clarity in terms of the royalty regime, and seem less punitive than some folks feared, so any thoughts on the impact of those royalty regimes, and how that makes you think about whether it makes sense to sanction the additional projects on a go-forward basis, because I think you had cited regulatory uncertainty as one of the gating factors behind new project construction?

[Steve W. Laut:]

I think overall, the new royalty regime is relatively neutral compared to the old regime. We are supportive of it, and one of the, I would say, modernizing factors of this new royalty regime is the fact that it's cost-based. So, it will reward operators who are more cost effective, and so we are very focused on costs. So, I think this could be a benefit for us because, as long as you beat the average in terms of costs, you'll be – come out a winner with this royalty system versus the old royalty system.

[Neil Mehta:]

All right, guys. Thank you very much.

[Operator:]

Your next question comes from the line of Greg Pardy from RBC Capital Markets. Greg, your line is open.

[Greg Pardy:]

Thanks. Thanks, good morning. Steve, just wanted to touch on your hedging; unusual for you guys not really to have any hedges in place. But you've just spent a fair bit of time talking about falling decline rates and much more free cash flow going forward. How should we be thinking about your hedging policy, particularly in the oil side, and are you gravitating away from the need to hedge? Thanks.

[Steve W. Laut:]

I think Greg, as we always said before, we only hedge to ensure we have the cash flow to deliver our capital program and the safety of our balance sheet. We are in a position now, especially as we have Horizon Phase 2B coming on, that we have much – very sustainable low decline rates and solid production with good netbacks, and that allows us not only to fund our capital program and dividends, but to pay down the balance sheet. So, we are not seeing the need to do hedging, especially at these levels.

[Greg Pardy:]

Okay. Thanks very much.

[Operator:]

Your next question comes from the line if Nima Billou from Veritas Investment Research. Nima, your line is open.

[Nima Billou:]

Thank you. Good morning. Just, I'm glad you guys were very conservative with respect to questions on M&A. Wouldn't your leverage level right now preclude you from any transformational or meaningful acquisitions at this point, unless you were to combine them with assets sales?

[Steve W. Laut:]

Yes, I think that's a good point. I think the real point is we have no gas in our portfolio, so we have no need to do acquisitions. So as was pointed out earlier, it's fourth on our list of things to do. So, I wouldn't expect us to do that.

[Nima Billou:]

And are you already seeing and I am glad you also laid out pricing for April, May and June, so clearly you may have hit sort of a bottom in Q1 with respect to product pricing across the portfolio, light oil or heavy oil. Are you starting to see discounts narrow and pricing starting to pick up?

[Steve W. Laut:]

Are we starting to see that? We have seen some of that, but it's still a volatile market; hopefully, we're coming off that bottom, but I think it's a too early to declare that we have come off the bottom.

[Nima Billou:]

Okay. Right, thanks very much.

[Operator:]

You next question comes from the line of Mike Dunn from FirstEnergy. Mike, your line is open.

[Michael P. Dunn:]

Thank you. Good morning, everyone. Couple of question for me. First, apologies if I missed it, but your – the PrairieSky shares that you need to I guess distribute to shareholders, are you still intending to do that I guess Q2 around the AGM or is that not necessarily the case?

[Steve W. Laut:]

Okay, Mike, thanks for that question, and we are looking at it and it will be decision for the board. It is on the agenda for the board this morning, and we'll have the shareholder board at the AGM today. So we'll know more news here as we progress through the day.

[Michael P. Dunn:]

Thanks Steve. And second question for me is on Primrose East. Now that it appears you've got the path forward of the final word from the regulator there in the pipeline repairs will be done soon here. What are you planning to do there for the rest of the year and I guess going forward to restore production? Thanks.

[Steve W. Laut:]

Okay, Mike. So, obviously we have the approvals to go back to low pressure steaming in Primrose East, which we will do and once we get the pipe repaired that will happen here in May and then we'll start our Primrose East steam. That is actually – right now, we're (32

[Michael P. Dunn:]

Okay.

[Steve W. Laut:]

And as Tim said, that will add 15,000 barrels a day production.

[Michael P. Dunn:]

Great, Steve, thank you. That's all for me.

[Operator:]

Your next question comes from the line of Chris Feltin from Macquarie. Chris, your line is open.

[Chris Feltin:]

Thank you. Good morning, guys. Couple unrelated questions here, but the first one is pretty easy. I noticed power prices in Alberta here have been exceptionally weak, and just kind of curious first off, like how much of that do you think is driving some of the OpEx gains that you guys have seen obviously natural gas be in the other part of the energy component? And then the second question is more related to the fires here again, I suspect it's probably too early to really tell here, but is there any risk here from the longer term supply issue, just coming out of Fort McMurray in terms of the services and suppliers serving that broader region. Obviously the news flow is coming pretty quick here, but just kind of wondering what your initial thoughts are here in terms of what that impact could be?

[Steve W. Laut:]

I'll answer the second question first and then Tim can answer the power price question. On the risk of supply and services, I think it's way too early to say. We don't know exactly how much damage is there. It's a very resilient and I'd say innovative service and supply industry here in Alberta and in Fort McMurray. I expect we'll cover fairly quickly, but it's too early to say how much damage has actually been done to equipment and operations in the Town of Fort McMurray. Tim?

[Tim S. McKay:]

Then as far as the power and fuel costs, it has small impact on our operations. As you've seen over the quarters, thermal for example, the operating costs are relatively flattish. So, it's a small impact in general.

[Chris Feltin:]

Okay, thanks.

[Operator:]

And we have no further questions in the queue at this time. I'd turn the call back over to the presenters.

[Mark A. Stainthorpe:]

Thanks, Dan, and thank you everyone for attending our conference call. As reflected in our first quarter results, Canadian Natural has a strong diversified asset base with the proven strategy that continues to deliver in challenging market conditions. Our focus on safe, effective and efficient and reliable operations is supported by a strong financial position while our plan for creating long-term shareholder value remains on track. If you have any further questions, please give us a call. Thank you and we look forward to our Q2 conference call in August. Thank you and good bye.

[Operator:]

This concludes today's conference call. You may now disconnect.