Gran Tierra Energy Inc.
Q3 2015 Earnings Call Transcript

Published: 4 Nov 2015

[Operator:]

Good day, ladies and gentlemen, and welcome to Gran Tierra Energy's Results conference call for the quarter ended September 30, 2015. My name is Donna and I'll be your coordinator for today. At this time all participants are in a listen-only mode. Following the initial remarks, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions. [Operator Instructions]. I would like to remind everyone that this conference call is being webcast and recorded today Wednesday, November 4, 2015 at 12

[Gary Guidry:]

Thank you, operator. Good morning and welcome to Gran Tierra's third quarter 2015 results conference call. My name is Gary Guidry, Gran Tierra's President and Chief Executive Officer. And with me today is Ryan Ellson, our Chief Financial Officer. Yesterday we disseminated a press release that included detailed financial information about the third quarter 2015. In addition, Gran Tierra Energy's 2015 report on Form-10Q for the three quarters - three months ended September 30, 2015 has been filed on EDGAR and is available on our website, www.grantierra.com. I'm going to begin today by talking about some of the key developments for the quarter and the year. Ryan will then take a few minutes to discuss key aspects of our quarter's financial results. We will then open the line to questions. Gran Tierra had a very exciting third quarter and we continued our transition to a Colombian-focused exploration and production company. Our base assets, the Costayaco and Moqueta fields in the Chaza Block supported by a strong operating team in Colombia had performed better than anticipated with production ahead of schedule, drilling results during the quarter and subsequent to the quarter-end exceeding our expectations in both results and costs. The major capital projects funded by the quarter were the drilling in Costayaco-25D, a producer; Moqueta-19i, a water injection well and stimulation work on three existing producers. All drilling operations were successful with the Costayaco-25D flowing commingled 1,500 barrels of oil per day from the U, T and Caballos Formations and stimulation work resulting in a total incremental production of approximately 1,200 barrels of oil per day. The company plans to drill two more wells in the fourth quarter, spud a third well before the year-end and perform additional stimulation work in Costayaco and Moqueta fields. Maintenance and development capital in 2016 will be in the range of $55 million to $65 million and primarily at Costayaco and Moqueta fields. This will involve the drilling of four development wells and optimization of existing wells and facilities. Completion of the four well program in 2016 will conclude with a major - will conclude the major capital spending portion of the field of plan above Costayaco and Moqueta fields. At which point, they will generate free cash flow with minimal maintenance capital spend. This strong asset base continues to provide robust funds flow, a strong balance sheet, positioning the company with a strong advantage, pursuing business development opportunities and expanding our diverse asset base in Colombia. Average production for 2015 is expected to range 23,000 to 23,500 barrels of oil per day. With our forecasted maintenance capital and development - maintenance and development capital of $55 million to $65 million in 2016, the company is forecasting an average production in the range of 25,000 to 26,000 barrels of oil per day. Mid-point of this forecast represents 10% increase in production growth year-over-year. The company will be releasing full comprehensive budget guidance in December of this year. Internally, we have high graded our exploration portfolio and are currently completing the perspective resource report, which we will release later this year. Lastly the company continues to evaluate all alternatives to maximize both Peru and Brazil assets. I will now turn the call over to Ryan Ellson, our Chief Financial Officer, who will discuss key aspects of the quarter's financial results.

[Ryan Ellson:]

Good morning. Overall, Gran Tierra had a very strong third quarter. The focus in Q3 was on executing our increased capital program announced in the second quarter; closing the new and expanded credit facility; improving our cost structure; ensuring capital discipline and evaluating acquisition opportunities. Execution of our capital program is ahead of schedule, is currently under budget. There is a strong indication our efforts to reduce costs and improve capital discipline have so far have been successful. In September we announced a new increased credit facility with a strong syndicate of banks which will provide us with liquidity in the future, if and when needed, provide growth in Colombia. Whilst we currently have not drawn the facility, the support we received from the leading banks demonstrates underlying confidence in our producing assets as well as the business environment in Colombia, especially in today's commodity price environment. On the acquisitions front, we continued to aggressively and systematically review acquisition opportunities, however, we have maintained a long-term view that any acquisition must offer compelling value and be a strategic fit for the company. With commodity prices remaining low, acquisition metrics are shifting closer to where we require for an acquisition to be value accretive to shareholders. With the persistent low prices, we are beginning to see more and more opportunities. However, we will continue to remain disciplined. During the quarter we repurchased the company's shares pursuant to a normal course issuer bid. In total, the company repurchased over 3 million shares at an average price of $2.20 per share. Given our forecasted free cash flow next year, we believe this is a prudent use of funds and we will still have ample liquidity to pursue accretive opportunities. At present, there is no need for additional funding in the business. Financially, here are some of the highlights from Q3. Average unit production for Q3 was on target during the quarter. After reduction of royalties, net after royalty average daily production was 19,583 barrels per day, an increase in comparison to 18,494 barrels per day in Q2. Sales volume for the quarter were 2,043 barrels per day higher than the net after royalties average daily production due to the sales of cumulative inventory which was yet to be sold at the end of Q2. If you recall at June 30, 2015, the company had accumulated a large oil inventory balance due to the time of the OTA pipeline disruptions in June. The company manages to sell excess inventory during Q3 and is now carrying oil inventory more in line with our typical month-end average. On a per barrel basis, the realized price decreased 25% due to the drop in price of oil from Q2 to Q3, as well as increase in trucking costs. For the quarter, Brent averaged 19% less than average in Q2 2015. For the quarter, 27% of the oil was trucked versus 4% in Q2. As you recall, the cost of trucking is netted against price whereas pipeline tariff costs are included in operating costs. Operating costs on a net after royalty basis in Q3 were $16.96 per barrel, which is a reduction of 4% from Q2 2015 and a reduction of 5% from the comparative three month period in 2014. The company has been successful in its implementation of cost reductions, and anticipates further reductions in the coming quarters. The company remains committed to drive balance cost structure. The operating netback for the quarter was $21.07, which is a reduction of 37% from Q2 2015. The drop in the price of Brent is the major contributing factor to the - in the decreased operating netbacks. However even at $50 Brent pricing which we saw in Q3, our current Q3 operating netback continues to drive strong funds flow. General and administrative costs on a net after royalty basis in Q3 were at $3.95 per barrel, which is a reduction of 48% from Q2 2015 and a reduction of 44% from the comparative period in 2014. Since Q1 2015, the company has engaged in significant cost reduction strategy to reduce its G&A. The company generated $36.6 million of funds flow from continuing operations in Q3. This is an increase of 47% from Q2. A large contributor to this increase is the time of the inventory sales. The company was also focused on reducing operating expenses and G&A during the quarter. Net income for the quarter was impacted significantly by absent impairment loss that resulted from the company's Q3 ceiling test. During the quarter, the company recorded ceiling test impairment losses of $129.4 million related to Colombia, $17.6 million related to Brazil and $3 million related to Peru. The reason for this impairment loss is primarily due to the decrease in oil prices, as average Brent for the quarter decreased from $61.70 to $50.23. The ceiling test definition under US GAAP calculates to price used in the ceiling tests by taking the first day of the month for the prior 12 months to calculate an average price. It then uses this price when calculating the future cash flows. In a declining price environment such as we are in, the write-downs are up and recognized later than if we were doing the ceiling test under IFRS. Capital expenditures for the quarter were $24.6 million are in line with our annual forecast. Overall, the company maintains a strong balance sheet and outlook at September 30. Cash and cash equivalents increased from $167 million to $187 million quarter-over-quarter. Working capital decreased slightly from $200 million to $191 million quarter-over-quarter. And lastly we've obtained the new expanded credit facility now set at $200 million. As Gary mentioned, at $50 Brent pricing we will generate free cash flow next year and still grow production year-over-year. Gran Tierra remains in excellent position now and is set for exiting 2016 and beyond. We’ll continue to prudently manage our balance sheet and remain disciplined on our capital allocation. The company will be releasing full comprehensive budget guidance in December of this year. I would now turn the call over to Gary.

[Gary Guidry:]

Thank you, Ryan. As mentioned, we have strong results at both Moqueta and Costayaco fields during the third quarter, and we maintain our production guidance for the year. Ryan summarized the strong financial position of the company, and I want to assure our investors that we are continuing our strategy on refocusing the company on Colombia growth, specifically diversification and expansion of our asset base in all productive basins in Colombia. In addition, we have submitted our application and requirements to qualify Gran Tierra as an operator in Mexico, as we evaluate the onshore opportunities available for the December 2015 bid well. Now, I'll turn the call back over to the operator, and Ryan and I will be happy to take any questions. Operator, please go ahead.

[Operator:]

Thank you. Ladies and gentlemen we will now conduct a question-and-answer session. [Operator Instructions]. One moment please for your first question. And the first question is from Nathan Piper from RBC. Please go ahead.

[Nathan Piper:]

Good morning gents. Couple of quick ones for me. First of all, on your drilling up from in 2015. So obviously if you drill more development wells and do all the stimulation work you're doing, that production can be increased which is great, and it has been pretty clear for next year. I wonder if you can speak to how that moves the reserves. So is all of your work really moving 2P locations to the 1P, or is the good work you’ve done on the stimulation side going to increase or has the potential to increase both Costayaco and Moqueta? I guess, are you developing a defined asset or you’re continuing to grow the reserves base that you've got?

[Gary Guidry:]

I think the answer to that is on the stimulation side. It's really maintenance for productive capacity. On the drilling side, we are targeting 2P, and in the case of Moqueta, we will, at the end of this year and early next year, be targeting some of our 3P reserves as we step out into other areas of field. The real urgency with this year's program was to get our water injection in line which we've accomplished. And I think some of the targets next year will get us focused on the 3P. If you remember, Nathan, it’s really the Moqueta field that has between proven and possible reserves 10 million to 15 million barrels, so it is quite material to the company and we're getting to it as quickly as we can.

[Nathan Piper:]

Understood. But then with the 2P reserve growth story is more of a 2016 today. Is that what you're saying?

[Gary Guidry:]

It is, yes.

[Nathan Piper:]

Great. On a slightly different topic, part of the reason I think you were attracted to Gran Tierra was the balance sheet and the opportunity to diversify the business as you say. That hasn't really happened yet and obviously you don’t want to just buy the first thing you see, but I wonder if you could give us an update on your perspectives of the Colombian M&A market at the moment, and also what would successful Mexican bid round look like for Gran Tierra?

[Gary Guidry:]

On the first part of the question, we have been quite active, both in refocusing the efforts in Colombia in our business development initiatives. A lot of things that are not public until we actually successfully bid. The big part of what we are doing, Nathan, is what Ryan said earlier, is we are being disciplined. And it is a market where we see opportunities. We are pursuing opportunities, but we are also trying to be disciplined with our cash because there are lots of opportunities, and we still more opportunities coming. I think you are aware that Ecopetrol have been very public in stating that the bottom part of their portfolio, which is not really material to them, is going to be put out for bids, and we are actively watching and pursuing those and that's been occurring. And I think that we'll continue. There is somewhere between 40 and 70 fields that will be coming on the market here. And so there is going to be a lot of supply and we just want to be disciplined in what we're doing. On the second part, on Mexico, we have purchased the data packages. We have a team looking at the onshore packages. What would be successful for us to enter Mexico would be a material reserve entry and a threshold that's on par with some of the projects we are looking at in Colombia. And that would be tens of millions of barrels, not a few millions. And that would be success. The second part of that success is it has to accelerate what our business plan is in Colombia, and that is a return on equity for our investors of our threshold of 3x to 5x over five years. That's what we are focused on as a team.

[Nathan Piper:]

That's clear. Thank you very much.

[Operator:]

Thank you. The next question is from Christopher Brown from Canaccord. Please go ahead.

[Christopher Brown:]

Good morning, Gary and Ryan. Thanks for taking my call. Just a couple of questions on the expenses for the quarter and look forward then to Q4 2015. You indicated that you had some transportation issues and you transported via alternative means. Just wonder if you could sort of elaborate in terms of what our expectations going forward, what type of operating expenses should we be assuming going forward for the near-term? And is there an idea of those being reduced into 2015 in the near-term, or should we be looking at higher operating expenses for the foreseeable future right now? I will start with that question.

[Ryan Ellson:]

I think on, Christopher, is that the - as we mentioned in the press release, most of our - large chunk of our volumes were either trucked or shipped through the OCP. The OTA is expected to be back up in mid-November and so that will help our operating netback.

[Christopher Brown:]

Perfect. What percentage was trucked of that?

[Ryan Ellson:]

27%.

[Christopher Brown:]

27%. Great.

[Ryan Ellson:]

Versus 4% in the prior quarter.

[Christopher Brown:]

Okay, fantastic. Thanks Ryan. And just a quick question on your impairment. Is there read-through we can carry through to reserves and who are you guys select as an auditor for your reserves, so we can take a quick look at their price deck assumptions they are going to use for evaluating Gran Tierra?

[Ryan Ellson:]

With respect to reserves, I think the ceiling test, under US GAAP it's backward-looking and so really it’s looking at the prior 12 months. And then so there will be no - if you look at the prior 12-month average versus the strip price, or reserve waters pricing - reserve pricing is higher. And basically on our low operating cost as well as the fact that all of the major facility expansions have been made, we won't anticipate any decrease on reserves in Colombia. And as for as reserve auditors, we are going to be in moving to McDaniel.

[Christopher Brown:]

Fantastic. And then just the last question, I’ll let others ask some additional ones. You had alluded to some Enhancement Oil Recovery studies that you were thinking of undertaking in the coming months. Have you made any progress in terms of what you may implement in 2016? You indicated on the call that you were essentially going to slow down Moqueta and Costayaco at this point with just base development program and some maintenance capital and workovers. How is the status of the Enhanced Oil Recovery Program and is that still ongoing or have you now abandoned that?

[Gary Guidry:]

No, it is well underway, Chris. We are doing the core flood studies with a different - some different surfactants, different polymers at the University of Texas was the lab that the team chose. And we expect to have those results finished here early in the first quarter. And our plans on a discretionary spend, we are looking at finishing up the modeling once we get the quarter results and potentially a pilot towards the end of 2016, early 2017. So yes, it's - the results are, as you might expect, encouraging. There is a great rocks and lower viscosity oil. So we think there is some potential there but the big potential for the company is adding more inventory and really getting after our pretty exciting exploration portfolio.

[Christopher Brown:]

Excellent. Well, thank you, Gary and Ryan for taking my call, and look I look forward to the resource report.

[Ryan Ellson:]

Thanks Christopher.

[Operator:]

Thank you. The next question is from Ian Macqueen from Paradigm Capital. Please go ahead.

[Ian Macqueen:]

Good morning guys. Just a quick question on your capital budgets. One thing that’s clear and it was your stated objective was to limit some of your spending relative to the previous management team. So capital was fairly light in Q2 at about $18 million and about $24.6 million this quarter, but to meet your guidance of $175 million to $185 million, you probably need to spend somewhere in the range of $60 million to $70 million. I did hear that you were going to do - you have some plans for Q4 as far as wells to drill, but I have a hard time coming up with $60 million to $70 million of spending. Can you break that down a little bit more?

[Ryan Ellson:]

Yes, it’s good question. As part of the - there was a bit of delay in Q3 as far as when we spud the wells, but now we do have both rigs going in Costayaco and Moqueta, and where two rigs is going then your burn rate goes up quite a bit. But we are experiencing some savings [indiscernible] and as we mentioned in our press release and as well as days drilled. So we may end up getting additional activity done this year. So more activity at a lower cost.

[Ian Macqueen:]

Okay. So that's probably a good number to keep in the budget, but it would be great if you could come in a little bit lower than that.

[Ryan Ellson:]

Always.

[Ian Macqueen:]

Okay. Good. Thanks guys.

[Ryan Ellson:]

Thanks.

[Gary Guidry:]

Thanks Ian.

[Operator:]

Thank you. The next question is from David Dudlyke from Dundee Capital Markets. Please go ahead.

[David Dudlyke:]

Yes, good morning, everyone. You're four wells into your 10-well program done at Costayaco and Moqueta. But on the well interventions, and I was intrigued by the contribution from those three wells that you stimulated through a pumping. I guess the question would be, what scale of population exists for other low-hanging fruit, obviously kind and what scale of uplift might be available from well intervention on that population?

[Gary Guidry:]

I think on the intervention side, the positive results is from asset stimulation, essentially cleanup stimulation. The real focus for us at the moment is we have plenty of capacity. We have more capacity than we’re producing. And I think the real focus of Alan Johnson and the team and the team in Colombia is how can we do less of these stimulations and have them last longer. It is a big part of our operating expense and we're hoping that we can optimize the stimulation work. In terms of other wells that we can bring on, we do have at least two other wells that we could stimulate and we may having additional capacity, time those over the next quarter or two. And the main thing that drives us David is stimulating when we have a pump failure. So we try to coordinate that type work. Does that answer your question?

[David Dudlyke:]

Yes, somewhat. But essentially you're saying that there is not a raft of other well candidates that you will go after necessarily, it's as and when, but the main focus is on new wells going forward [ph].

[Gary Guidry:]

Yes.

[David Dudlyke:]

Okay. Moving to the exploration side. It's very encouraging to see that you’ve high graded the portfolio and you're planning a resource report by year-end. But perhaps you can just remind us of the lead time that you are likely to incur for exploration. Should we expect any exploration dollars in 2016? Ryan spoke about the discretionary cash flow, the free cash flow that you got available, but is any of that likely to be propped in exploration given the big terms that you spoke off previously?

[Gary Guidry:]

Yes. The answer is yes. The first part of your question is we still believe that it's going to take about two years. We might be able to compress that to 18 months. We are working very diligently, trying to accelerate that, especially on N-sand plays in the Northern Putumayo. And the second part of your question is, we think we have a few wells that we might be able to drill to get to in 2016 and we are pushing very hard to make that happen.

[David Dudlyke:]

And that’s in the - that would obviously be in the Putumayo or is it…

[Gary Guidry:]

Yes.

[David Dudlyke:]

Okay.

[Gary Guidry:]

And the resource report that the team are working on will include both - we have some structural opportunities as well as the N-sands, the stratigraphic plays in the N-Sands.

[David Dudlyke:]

Okay. And in fact, while we're speaking about the N-sands, you make note of a test of a sandstone reserve oil and yet have multi-exploration well. Can you confirm is that from N-sand but you're going to be testing, and I know that you pull out a modest extension to the exploration rights. If that test is positive, do you then propose some further test program or drilling program to extend - essentially when do you have to give up some of the acreages in Chaza Block? Is it no later than February 1 next year?

[Gary Guidry:]

No. By doing this test, we will get a year. And the answer is yes, it is an N-sands that the company drilled early in 2015 and did not test. We looked at it and we think it's quite encouraging, and we believe that if it is positive on an oil test which everything tells us it should be that it opens up another play in the northern part of the Chaza Block, which was why we committed to the immediate test of that well, and it opens up quite an interesting play in the northern play of the block.

[David Dudlyke:]

Are you able to put any sort of scale on it as yet or should we just wait until we - will that be included in the resource report potentially?

[Gary Guidry:]

It will be in the resource report.

[David Dudlyke:]

Okay. I'll leave at that. Okay, many thanks.

[Ryan Ellson:]

Thanks David.

[Operator:]

Thank you. [Operator Instructions] And your next question is from Luis Carvalho from HSBC. Please go ahead.

[Luis Carvalho:]

Hi. Thanks for taking the question, Gary. I basically have two questions here related to the some of these statements that you mentioned also from Ecopetrol plans to actually renegotiated some of the fields. I mean, today in one of the local newspapers in Colombia, they mentioned that potentially the contract on SP Alis [ph] and Turner will be renegotiated and they have the plans to actually to get back the fields as they did with Rubiales recently and Pacific E&P. I just want to track to actually assess if you can share with us a bit of the color, what would be the potential impact from the fuel that you have partnership with Ecopetrol or any contract that could return to them? And second question would be regarding the acquisitions that you mentioned during the call. Also Ecopetrol plans to actually return from field that you mentioned. I just want to try to understand, what are your strategy behind the acquisition plan? If it’s something more to exploratory front or development of production fields? Thanks you.

[Gary Guidry:]

I think the answer to the first question is the Santana field, that contract concluded in July of this year and has been turned back. We are looking at virtually everything that Ecopetrol have disclosed so far and they have not disclosed which deals will be coming out. And so our real strategy is we are looking at all of the Ecopetrol deal. So the strategy is very simple. We are looking at both exploitation as well as exploration and there is no real way to predict how those will come out in the process, but what we are focused on as both Ryan and I mentioned, is diversifying our portfolio. We believe that we have a very dominant position in the Putumayo. We love the Putumayo and we will continue to look for, not only executing on our portfolio there but expanding our portfolio in the Putumayo. But we are also looking to diversify into the other basin. So the answer is we are going to look at not only Ecopetrol assets, there are other assets that are available and we believe will continue to be available and so we are looking at all of the above.

[Ryan Ellson:]

And in the Santana, and Guayuyaco [ph] in the first part of July, so the reversion is reflected in our Q3 results.

[Luis Carvalho:]

Okay. Just one last follow-up, I’m not sure tell you told you during the call, but do you have any specific date for the asset review?

[Gary Guidry:]

For the what review?

[Luis Carvalho:]

Reserves review, your reserve certification review.

[Gary Guidry:]

Yes, the results will be on schedule, will be in Q1 for our year-end number. The perspective resource, we have a draft report, we are reviewing and we'll try to get that through our reserves committee and the board and release before the end of this year.

[Luis Carvalho:]

Okay, clear. Thank you.

[Ryan Ellson:]

Thanks.

[Operator:]

Thank you. Gentlemen, there are no further questions at this time. Please continue.

[Gary Guidry:]

Okay. Well, thank you, operator. On behalf of our Board of Directors, our team here at Caracal, again we want to thank all of our investors for the patience and support. We continue our efforts and we will continue - and we look forward to providing positive information in the coming quarters. As always feel free to call us at any time and we are available and thank you for your time.

[Operator:]

Thank you. The conference has now ended. Please disconnect your lines at this time and thank you for your participation.