Freehold Royalties Ltd.

Good morning. Welcome to the Freehold Royalty third quarter results conference call. Please be advised that certain statements on this call constitute forward-looking information. All statements other than those of historical facts may be forward-looking and we caution the listeners. As a new added feature this quarter, You can now submit your questions in the Q&A window on the webcast page or ask your question through the telephone line, if preferred. I would now like to turn the meeting over to Mr. David Spiker. Please go ahead.

Good morning, everyone, and thank you for joining us today. On the call from Freehold are Rob King, our COO, Dave Henry, our CFO, and new to our team, Todd McBride, as Manager, Investor Relations. So on today's call, we will share with you our third quarter results, as well as share our excitement around two big projects that we've been working on. One is our asset book, which will be an in-depth review of the extensive opportunity set in our portfolio. And second is an investor day, where we can walk through this in detail and provide our shareholders with an update on our business and how we think of things going forward. We will highlight our attractive dividend yield currently just under 8%. The sustainability of our dividend levels, which through the strategic oil-focused portfolio work that we have done, is covered well below current prices. And third, our multi-decades of inventory in the top oil basins across North America that will support our business and our dividends for years to come. We built a great company here at Freehold, and we look forward to sharing more of these thoughts at our investor day. It will be in Calgary on December 3rd with full virtual access. So turning our attention to our third quarter results, liquids production in the quarter was 93.67 barrels a day, up 3% from Q3 2023 and up 4% year-to-date this year compared to 2023. As you've been hearing through these quarterly calls, our liquid-weighted portfolio is key to delivering strong realized pricing and cash flows. Our realized price of $54.36 per BUE this quarter was 10% and 78% higher than our Canadian royalty peers. As our Texas production in the Permian and Eagleford basins, our light oil barrels situated right on the Gulf Coast sales points. This drives a much stronger realized price, well above the price of any Canadian barrel at today's exchange rates. So in Canada, our production of 9,075 BUE a day was impacted by gas volumes, which were down 270 BUE a day from the prior quarter, really a reflection of the weak ACO pricing throughout the summer and early fall. This weak pricing had led to production curtailments as well as deferred drilling activity as our operators pushed that drill program into Q4 and into Q1 2025, looking to capture an expected better gas pricing environment. We should note that while the gas prices impacted our top line production numbers, it had a negligible impact on cash flow in the current quarter. As at the 20-year low in gas prices that we saw in Q3, less than 4% of our Q3 funds from operations was from natural gas. I'll get into a little bit more detail later in the call, but I just wanted to touch on the oil-focused drilling activity on Freehold's lands, particularly the Clearwater, Manville Heavy Oil, Southeast Saskatchewan, and Viking Light Oil Plays, where we had 82 wells drilled in Q3. In the U.S., which is a very high returns part of our business, our production remained near record levels at 5,533 BUE a day in the quarter. We currently have 33 rigs active on our U.S. lands, with our market share of rigs active at about 5% are drilling on our lands in the quarter. Wells drilled in our midland acreage have been outperforming previous year type curves as operators are drilling longer wells. With three-mile wells becoming much more common, they're optimizing what we call multi-bench continuous development or Q development strategies, and they continue to optimize their frac designs. Our acquisition strategy has been really focused on acquiring mineral title in these undeveloped drill spacing units in the core of the Permian in both the Midlands and Delaware sides. We have further advanced our U.S. presence with an active ground game working with a well-established team based in Houston. The ground game means we are purchasing mineral titles one by one in the drill spacing units that can be drilled and developed using the latest and greatest technology to optimize production and reserve recovery. We are very excited about having this as part of our portfolio build strategy. A little further on rig efficiency, operators are needing fewer rigs to achieve the same level of activity. It's worth noting that in Diamondback's comments on their Q3 call, where they're a key operator in the Midland Basin, they indicated they will only need 18 rigs to drill the same lateral footage as about 23 rigs in the past. I was in Midland about three weeks ago with Dave Hendry, our CFO, and we were on those rigs, and the technology that's being deployed to continually improve the drilling efficiency is quite impressive. Turning to our financial performance, our funds from operations was $56 million in the quarter. Our focus on oil and NGL production growth in both Canada and the US has been key in our ability to generate solid financial results. Our diversified exposure to pricing markets throughout North America helps drive our net backs and cash flows and allows the business to grow over time. This quarter, we paid $41 million to our shareholders in the form of dividends and reduced our net debt by $12 million to $187 million. This equates to a 73% payout ratio and a net debt at 0.8 times our trailing funds from operations. Our balance sheet remains strong as we continue to operate well below our debt target range. So just turning back to the drilling side, we had another strong quarter drilling activity with a total of 278 wells drilled across our North American portfolio, an increase of 11% compared to Q3 last year. In Canada, our net wells increased by 41% as payers elevated their drilling activity on our mineral title lands wherein we receive a higher royalty rate. This is really a function of the amount of leasing activity that we've done over the last couple of years, and we're seeing drillers focus on those lands. We saw more wells focused on the heavy oil-weighted Manville stack and Clearwater formations this quarter, with about 55% of drilling in the Clearwater and Manville, making it the highest level of heavy oil drilling activity on our lands over the past several years. With the weaker gas pricing, the drilling focus has been on oil wells, which have a lower overall productive capability on a BOE a day basis versus a gas well, but they contribute significantly more revenue given the relative strength of oil prices. Turning to our U.S. portfolio, both gross and net drilling were up 14% from Q3 2023 to 0.8 net wells. We continue to be encouraged by our U.S. assets and their ability to grow over time. Our lands are situated in the best place in North America with some of the best operators continually finding more efficient ways to grow production and add to their portfolios through M&A work. With M&A, our top U.S. operators will be ExxonMobil after their $60 billion acquisition of Pioneer and ConocoPhillips after their $23 billion acquisition of Marathon. Both these companies have made significant investments in our core U.S. operating areas. Overall, our Q3 results show the strength of the company and our ability to navigate through volatility and commodity prices. We drive premium pricing on our assets through our North American exposure, and we're well positioned in the best oil plays. We have $33 million a day in natural gas that will help drive gas role growth as those gas markets strengthen. We are encouraged by the drilling and leasing activity on our lands, and we look ahead to the last few months of 2024 and into 2025. So just to close things off, as mentioned at the beginning of remarks, we will be hosting an in-person and webcasted Investor Day in Calgary on December 3rd, as well as introducing our updated 2024 asset book. We look forward to having our leadership team walk you through all the exciting developments we have made over the past few years and highlight our unique competitive advantage as a North American energy royalty company. So with that, we will now take the time to answer any questions that you may have.

Thank you. We will now take questions from the telephone lines. If you have a question, please press star 1. You may cancel your question at any time by pressing star 2. Please press star 1 at this time if you have a question. There will be a brief pause while the participants register for questions. Thank you for your patience. The first question will be from Christopher Jones from Haywood Securities. Please go ahead.

Hey, good morning. Thanks for taking my question. Some of your top royalty payers on both sides of the border have completed acquisitions over the past 12 months, and I believe there's been exposure with payers on both the acquire and target side. So just curious what sort of trends you may have seen or observed from an activity-based post-consolidation You've heard a lot about M&A temporary growth as it requires slow to target activity. So just sort of wondering if you've seen that as well and have you incorporated any slowdown in activity, particularly from this type of consolidation into the outlook?

Sure. Thanks, Chris. It's Rob King speaking. Maybe I'll talk first from the U.S. side and then second from the Canadian side. I would actually say on the U.S. side, to kind of put numbers around it, Exxon was less than 1% of our drillers and royalty production last year. Poor Pharma, the pioneer deal, they've actually increased their pace on our lands and now they represent 5% of our production and probably closer to 15% of our net drilling so far this year. So we've been encouraged with the way that Hexon has communicated to the market when they acquired Pioneer. They're going to grow their position from 1.3 million barrels a day to 2 million barrels a day in the Permian. And we're sort of seeing them fairly active on our lands. I think the second, which we'll have to wait and see a little bit here, is how Conoco is going to approach Marathon's Eagleford assets. It's one where Marathon really used those Eagleford assets as a cash cow to fund other parts of its portfolio. It'll be interesting to see Conoco, when they acquired it, sounded like they might be a little more constructive with respect to what kind of capital they might be allocating to the Eagleford, but that transaction has not yet closed. So we don't know at this point. On the Canada side, what I'd say, one of the green sheets we've seen with respect to consolidation and for M&A activity, that sort of point to southeast Saskatchewan where a number of the incumbent players have been monetizing you know, their Saskatchewan assets as they've been moving further west. And, you know, the privates and the juniors have really stepped into that base and in a material way and bring sort of new ideas and, you know, multi-lap technology to sort of seeing, you know, an area that's been largely a plank in our portfolio, you know, being something that, you know, we're seeing some modest organic growth. Okay.

This is Dave here. The... What we're seeing just starting to show up in southeast Saskatchewan is the multi-lap, horizontal multi-lap drilling. So it's been going on for about a year in the Bakken, but there are operators that are pushing that into other formations as well. Notably, there's been some spearfish that Wells drilled, and so we see that as an opportunity to unlock significant oil reserves in southeast Saskatchewan that wasn't even on the radar a year or two ago.

Okay, thanks for that, Collin. I'll hand it over.

The next question is from Jamie Kubik from CIBC. Please go ahead.

Yeah, good morning. Thanks for taking my question here. Just on the wells drilled in the quarter, wells drilled in Canada were up considerably versus the prior year on a net basis. Can you just talk about indications from operators for this to continue through the end of the year and maybe into next year? And then also, can you just comment on the activity on the U.S. basin being relatively flat and how you expect that to trend moving forward? Thanks. Bye.

Sure. Thanks, Janie. Rob again. On the Canada side, a lot of our net drilling in the corridor was in our Clearwater and Maddenville stack heavy oil assets. And you're right about the nets being up materially year over year. Largely as a result, you can sort of see this as a testament to the leasing programs that we've been talking about over the last several conference calls where We had a number of 15 plus percent mineral title lambs being drilled, leases being converted into drills over the quarter. In terms of the target of that going forward, I think it's going to be largely dependent on overall commodity pricing. I would say at the end of Q3, we usually have about 30% of the net wells that still haven't been turned in line. At the end of Q3 this year, it was closer to 50%. That's probably much more of a reflection of where nat gas pricing was. We had a number of Pato and Tourmaline wells that they did not bring online in Q3, and we'll see when they bring those wells in line. Unfortunately, gas pricing still doesn't look overly constructive. As a title and royalty owner, we're okay for them waiting as well because we get that better pricing as well. And on the U.S. side, again, it's largely been 70% of the wells being drilled in the Midland Basin and 30% in Eagleford. Marathon is a little quieter in Q3. They were actively bringing wells on, but they were less active drilling in Q3. So I think we'll anticipate with Conoco, it's going to be a more measured pace of drilling in our Eagleford assets which is about 50% of our U.S. production.

Okay, that's good. I'll hand it back. Thank you.

Thank you. Once again, please press star 1 if you have any questions.

Maybe while we're waiting for those, if there's any questions coming in on the phone, we do have some questions that have... I've come up online a couple of them, just looking for a little bit of color on the U.S. investment opportunities and how we think of building that portfolio. So maybe I'll turn that over to Rob and Dave Henry to just address how we think of using our balance sheet, how we think of NCID in light of the opportunity sets that we're seeing. So go ahead, guys.

David, I'll start off with just the market and maybe hand it over with respect to how we're thinking about financing and allocation of capital. On the size of the market, the U.S. is still an incredible place to be looking for opportunities. Texas is over 98% privately owned mineral title as well as when you multiply that against the significant oil base that is that's available there between the Permian and the Eagleford. It just provides significant opportunities that, you know, and as Dave mentioned, you know, we've been starting a new initiative, you know, this quarter working with, you know, kind of a grassroots ground game, you know, opportunity where we're literally buying an acre at a time and being able to target in exact areas within the Midland Basin, you know, with exact operators that we want to be under. And then we're still looking at a lot of the other opportunities as well, but it's sort of one where the quality bar that we've set is very high, and it certainly has to not only make us better, but it also has to be accretive for our shareholders both near-term and long-term. Dave, from financing, allocation of capital?

Right now, we're trending at around 0.8 times net debt to cash flow. That's a level we're very comfortable with. We like it below one times, but our strategic range is around 1.5 or lower. Effectively, utilising our capacity of our balance sheet for any opportunities that are accretive, as Rob pointed out, both in the near term and the long term. And so that is our focus as far as on the shareholder basis. For ultimately returning capital or being accretive to shareholders, when we're looking at acquisition opportunities, we look at what our leverage is, ultimately by looking at how we're going to return capital to shareholders. Dividends right now is our largest return, so we got over 70% of our capital returned, which is a competitive comparison of yield to our competitors. But we do look at other measures, like, for example, share buybacks. Ultimately, that's another tool that a lot of our competitors use and the sector as a whole. And it's something we look at. And when we're looking at acquisitions, we do compare it to that. So we don't ever say no to it. But at this point, with our relatively high dividend yield and our opportunities at hand, prioritizing our accretive cash flow means we're probably not likely to do any share buybacks or register NCIP in the relatively near term.

Another question. There's a couple of questions. Question just about how do we think of premium growth over the coming year? And Rob, I'll get you to maybe handle that. And then we've got another question on stock ownership, which I'll handle.

Sure. So in terms of Permian growth, I think our Permian assets, Exxon, would be our most important driller on our lands there, as well as a couple of privates, the smaller cap companies in Howard County. I think we look at our Permian assets in a $75 oil price environment. It's probably growing in the mid-single digit type range. If it's a lower commodity price environment, then I think you'd also see that growth rate tick down. I'll observe Diamondback's comments with their Q3 results where they certainly looked at a $70 WTI environment. They're sort of guiding towards a 2% growth rate with respect to their Permian assets. So it's one where the capital discipline amongst the quality companies that we're under in the Permian is alive and well.

This is a question on asking me personally, Dave Spiker, what my percentage of net worth is in freehold stock. I personally own 180,000 shares that I've been buying on the market. It's the only stock that I own, and I just continue to build that position. So my activity shows my underlying belief in the company as we continue to build the company, and I continue to build my ownership in it. I think we've covered off the questions so unless anyone else either wants to phone in or type on in, I think we'll just wait a minute or so here and then end the call. Okay, well I think we've got things covered off so thanks everyone for joining today and Thank you for supporting this talk, and we look forward to connecting with each of you at the Investor Day on December 3rd. Thank you.

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