Parex Resources Inc.

Good morning, everyone, and welcome to PARX Resources' second quarter 2023 conference call and webcast. My name is Mike Crookton, Senior Vice President of Capital Markets and Corporate Planning at PARX. On the call with me today are Armand Molson, PARX's President and Chief Executive Officer, Ken Pinsky, Chief Financial Officer, and Eric Furlan, Chief Operating Officer. This quarter, we are pleased to offer a new online video webcast in addition to the regular conference call telephone line for analysts. Please note that at any time, participants on the phone can press star 1 to submit a question. As a reminder, this conference call includes forward-looking statements as well as non-GAAP and other financial measures with associated risks outlined in our news release and MD&A, which can be found on our website or at cdrplus.ca. All amounts discussed today are in U.S. dollars, unless otherwise stated. Please go ahead, Ahmad.

Thank you, Mike. Good morning, everyone. Before I turn it over to Ken for an overview of our quarterly financial and operational results, and to Mike for his comments on our ninth annual sustainability report, I'd like to share some opening remarks regarding the progress of our overall strategy. I will end the call with comments on the momentum that we are building in the northern Llanos, as well as our updated 2023 guidance and outlook. In the first half of 2023, I am proud to say that we continue to progress the three core pillars of our strategy. First, exploitation and technology. In Soka, we are seeing success from the horizontals that we have drilled. And we are continuing to progress our water flood plans. Also, in the year 1938, we had an oil discovery in the C7 reservoir on one of our quick-hit wells, where we have spotted a follow-up horizontal well to maximize recovery. On the gas strategy part, we are making concrete progress in our discussions with Ecopetrol regarding the MOU, and we also made the decision to expand the facility of VIM1 in 2024. And third, on big E exploration, we did drill and test the Shermoya well at WIM43, which was the first of the three big E wells for the 2023 program. Despite the well not delivering the outcome that we hoped for, we continue to see significant exploration upside potential in Colombia. We plan to spot two more high-impact big E wells in the second half of 2023. There's more to follow in 2024. With that said, I continue to be excited about our trajectory and the organic opportunity set that we have in Colombia for the next, for both development and exploration. With that, please go ahead, Kev.

Thank you, Ahmad. Despite production impacts experienced in the Northern Llanos at our Capachos block, the second quarter delivered strong operational and financial results that highlight the robust profitability derived from our Colombia operations. Funds flow provided by operations was US $155 million, which was lower than prior quarters, primarily due to decline in global crude pricing, notwithstanding our production volume growth. Average Q2 2022 production of 54,120 BOE per day was up 6% compared to Q2 2022 and up 5% from the prior quarter. Estimated average production would have been close to 58,000 BOE a day if it not for the temporary shut-ins experienced at our capacials block that were outside of our control. The net effect was lost production and drilling progress at both capacials as well as the rail cut, which overall had an estimated impact of approximately 3,500 or 3,800 barrels of oil equivalent per day on the quarter. Ahmad will discuss the annual impacts and the update to our guidance later in this call. Production per share increased by 14% year over year, which was supported by the higher production levels and the reduction of shares through our normal course issuer bid, or NCIB. Year-to-date 2023, we have repurchased approximately 3.6 million shares, or approximately 3% of the float, as a mechanism to return free funds from this flow to the shareholders over and above our Canadian 37.5 cents per share quarterly regular dividend. We ended up the quarter with a slight working capital deficit, which we expect to turn to working capital surplus by year end due to expected higher fund slope operations, which will be due to increased production, higher benchmark oil prices, and our narrower differential for our heavy crude stream. All the while, capital expenditures are forecast to remain flat based on our first half 2023 run rate. With that, I will pass it on to Mike to provide a brief ESG update.

Thanks, Ken. As part of our commitment to delivering superior ESG performance and disclosure, we are now pleased to release our ninth annual sustainability report, which for the second year in a row, integrates the Task Force on Climate-Related Financial Disclosure, or TCFD. Some noteworthy achievements from our 2022 report are making contributions progress against our 2030 emission intensity target of 50% by achieving a 37% cumulative reduction in GHG emissions from our 2019 baseline, and investing over $5 million in the communities where we operate. As the company works to continuously enhance its ESG performance and disclosure, this year's report sets targets within four core priorities. Communities, GHG emissions and climate, people and culture and water. The hard work and dedication exhibited by our teams in both our ESG initiatives and reporting reflects our commitment to responsible resource development. I encourage those interested to explore the complete report, which is now available on our website. And with that, I would like now to return the call back to Ahmad for some final remarks.

Thank you, Mike. This is a paragraph I was looking at in the beginning. I would also echo your comments regarding our terrific sustainability report. Moving on, as Ken briefly mentioned, the company has faced social-related challenges throughout the first half of the year at the Northern Uranus, which resulted in temporary shut-ins at both Capachos and Arauca. Through continuous engagement with stakeholders, community leaders, and government officials, both assets have been fully operational since late June. And we are exiting the quarter with positive momentum. At KAPACHOS, we are ramping up production on wells already drilled, notably KAPACHOS-3, SURE-4, and ANDIZA-2, which are the main drivers to increase production on the block. And at Rauka, We are optimistic about our multi-year drilling campaign and have made the decision to accelerate our program there by bringing a second rig onto the block. We are currently drilling Arauca 15 well, which is at 11,500 feet and expected to TD in the late Q3. And we are expecting to spot Arauca 8, our second big E well in the 2023 program in the late Q3 as well. Turning to our 2023 guidance. The aforementioned shut-ins are estimated to have combined impact on the company yearly production of approximately 3,100 barrels a day. We experienced lower-than-expected production from SOCA assets because of higher downtime, both technical and social. When we originally set guidance, we widened it to take into account to account for uncontrollable above-ground factors, which in my mind constitute an approximately three to four months deferment of our gross plants. Given the duration and the extent of the shut-ins, we are updating our 2023 average production guidance to 54,000 to 57,000 BOE a day. Our capital expenditure guidance is also being updated to a range of $450 to $475 million. The tightening of our priority guidance is driven by the standby costs associated with the shut-ins and the increased spending at Wimford Street exploration wall, mainly because of the testing. Looking forward to the remaining of the year, I'm encouraged by our company's momentum and the work our team is doing to build the strategy foundations for future upsides. Having just returned from Bogota last week, where we had extremely productive meetings with Ecopetrol and their relevant ministries, I'm pleased with the progress that we are making to leverage the value of our MOU. In Q4, we have plans to spot the third and final Big E exploration while of the 2023 program at Janos 122 called Arantes, which is a prospect under our MOU and located in the foothills of Colombia. This opportunity excites me because Imagine just the long-term potential if the Western Canadian foothills had only been controlled by two partners. To finish, as a part of the ongoing Colombian peace process, a bilateral cessation of hostilities is set to come into effect today, which is encouraging and should help the long-term stability in some of our key operating regions. My outlook is that we are well positioned for a strong back half of 2023. Our updated guidance implies Q4 2023 production rates that exceed 60,000 barrels a day, and that puts us back on track to deliver on our three-year plan objectives. I want to thank our employees in Calgary and Colombia for their hard work and our shareholders for their continued support. This concludes our final remarks. I would like now to turn the call back to the operator to start the Q&A session for the investment community. Thank you.

At this time, if you'd like to ask a question, simply press star then the number one on your telephone keypad. Again, that is star one for any questions and we'll pause for just a moment to compile the Q&A roster. Our first question will come from the line of Anthony Linton with Barclays. Please go ahead.

Hey, good morning, guys, and thanks for taking my questions. I guess maybe just to start on the capital budget side, final cost for Kira Moyle was $49 million, or about 10% of the original allocation. How do you think about that 10% of the budget going towards Big E for the balance of the year and then into 2024?

Thanks, Anthony, for that question.

When we look at the Big E, we have roughly $50 million allocated to Big E every year. And, you know, turmoil, we had cost overruns online, and certainly the decision to case and test it added extra capital to that. One factor was this was 100% working interest well, and most of our other wells going forward are going to be 50% working interest. We're comfortable with that $50 million allocation as we go into 2024 as a good proxy for how we'll allocate to Big E as we go forward.

Got it. Okay, thanks.

And then staying on capital, you laid out a pretty comprehensive three-year plan at your investor day in the fall. How do you sort of think about that guidance into 2024 and beyond based on the updated guidance for the balance of the year?

Anthony, I'm going to pass that to Ahmad to talk more about high-level strategy, how we see the business.

Yeah, I mean, for me, what we did, having seen the disruption beginning of the year, is to... we decided to to to deliver on our capital program so uh that what does that does is we do spend the capex this year as per originally planned with with some small variations but the key is we deliver all the plan and we come out strong at q4 uh yeah we don't get the full production this year because many of the wells now come end of uh Q4 or early 2024. But that allows us to stick to the spirit of the plan, which is get the production that we set in three years and reduce the capital as we go doing it. Lots of Lots of the upside will come from just normalizing things that we have now behind pipe and we're bringing into production.

Got it. Okay.

And then maybe just one more if I can. The lower effective tax rate, what's sort of driving the change there and how long is that expected to kick around for? Ken?

Yeah, thanks, Mike. And thanks, Anthony. What drives it is reduction in production that we had in our guidance. Lower commodity prices in higher Baskonia just reduced taxable income expectations for 2023. But we're still on track on the capital program. And we did a reorganization the prior year, as you recall, with the Capistero reorganization. And so, you know, our effective tax rate just comes down by about 3%. uh for 23 and you know 24 it'll be really driven by what your price expectation is but if you kept it around 80 brent um i see the same range as being accurate for 2024 as well anthony and then after that it's the range of broad note because it depends on how successful we are with the exploration program production levels and that sort of thing but uh for this year and then going into 24 i'd use the same range that we stated in our mdna

Cool. Okay, that's it for me. I'll turn it back. Thanks.

And as a reminder, to register for a question, please press star one. Your next question will come from the line of Conrad Bearsnicki with Peters & Co. Please go ahead.

Conrad, your line may be on mute.

Oh, thanks, guys, for taking my question. Can you hear me? Yes.

Yes.

Awesome.

I just wanted to know, how should we think about capital allocation in the back half of the year? Is the preference still NCIP after the base dividends or could there be some base dividend increases or specials coming?

Thanks, Conrad.

When we look at capital allocation, it really is on looking at it holistically in the full year. We have a commitment on the dividend for the year and that annual dividend is really reviewed once a year. When we look at how we're going to return the one-third of capital back to shareholders, one-third of the funds flow back to shareholders, We take our base dividend. We subtract that. We're buying back shares. And you can see in the first half of the year, we actually returned about 37% of our overall fund flow back to shareholders. Our goal is one third. So we'll adjust that with pricing and realizations as we get through the second half of the year. As for special dividends, it's always an option. But our preference right now would be to fulfill the one third using the share buyback.

Got it. Thanks for the color. Just one more question. Just around the gas cycling expansion at VIM1 next year. Just wondering, what does that mean for liquids recovery and what are you expecting for liquids growth from VIM1 going into 2024?

Great. I'll pass that to Eric Verlin.

Thanks, Mike. In VIM, just to remind, we're producing about 20 million cubic feet of raw gas right now and making about 3,200 barrels a day. of gross liquids. We are expanding the facility and the operations triple that. So you could say that operationally we could get liquids growth up to 10,000 barrels a day and recycling of up to 60 million cubic feet a day. So that is our plan. We're expecting that to be online later in 24. But we're excited about that opportunity. It's performing very well for us and we see it as a great opportunity in 24 for us.

Got it. Thanks. That's all I had for questions.

Your next question will come from the line of Luke Davis with RBC Capital Markets. Please go ahead.

Yeah, thanks. Good morning, guys. Just curious if you can provide a little bit more context in terms of the drivers for the protests that caused the shut-ins in the quarter. Sounds like, Ahmad, in your closing remarks, you suggested there might be some mitigation factors going forward, but What's the likelihood of any of that continuing through the back half? And then as kind of a follow-up, just curious how much downtime you have built into second half guidance as well.

Great. I'll pass that to Ahmad.

Yeah. So we are seeing very positive momentum here. As I mentioned, the cessation of hostilities took place or should take place today. The president Petro was in... Bogota this week together, in fact, with our country manager, Daniel Ferreira. And we are seeing completely change of the dynamic in the area. We are on the ground. We see how the politics are, how the community mood is. And it's pretty encouraging, to be honest. That's why we took the decision to bring a second rig to Arauca. We are being invited by the civil society in that area as well as the government to contribute to solutions. One example of that is already we grew our work for taxes program, which is prepared to invest government tax money into infrastructure in the area. So last year we spent five million bucks. 2023, we got 23 million bucks approved. So that's a big investment. overall jump and last month we've been invited by the Iraq different stakeholders to deliver an additional 20 million bucks of infrastructure works to remediate the damages and roads and infrastructure they had after floods so so we're becoming really part of the solution so so overall i would say in terms of the the government support uh the the overall social situation i'm i'm cautiously optimistic there are other guarantees no so we did take that the fact that there is always a large and predictable element to colombia and and thus we think we are reflecting that in the new guidance

Thanks, Matt. And maybe I'll just call from a downtown to answer the downtime.

But, you know, we are expecting a more normalized downtime going forward of around five percent. That does incorporate some social disruptions, but not the major ones. And reiterating Matt's comments, we do see a different situation right now in the northern Janos and have some confidence moving forward with operations. We currently have two service rigs and a drilling rig operating in the area, fairly steady.

And so we do have some momentum going forward here. Great, that's helpful, thanks.

Just one follow-up. I'm just curious if you can frame out, and I know you're probably going through the 2024 budgeting process now, but even just directionally, if you could frame out where you expect most of the growth in the portfolio to come from, and if you could sort of frame that on a field-by-field basis, that'd be helpful.

I'm going to let Ahmad talk about the overall strategy for 2024.

Okay, let me start by 23. If you start with capacitors and bring it back to pre-shut-in levels, that's a reasonable amount of growth. We have, in general, the quick hits like the Lucero one we mentioned that will also keep delivering a reasonable amount of production. And we are seeing also very good outcomes in Janos on the horizontal we've been drilling there. And there's many more to come, including this year. What that does is it does set us up for a strong exit. So we mentioned the outlook of above 60,000 bars the day before Q4. If you just average that and start from there for the year, you're already having reasonable growth year on year. On top of that, if I think about 2024, we have different places where we're investing. We are investing in VIM, although that will come to the end of the year. We are bringing two rigs to Arauca this year, but most of the production impact will come next year, so there'll be growth there. In Llanos, we completed the Cabastero water flood, but we are late on the ejection volume. So we're ramping up and we expect to see more of the impact in addition to the horizontals that will continue next year. And, of course, there's the big E, and we have big hopes for, for example, Arauca 8, while coming late this quarter, that will happen next year. So it is the same thing as the gas and VIM, or the gas strategy, you have the exploration, but also a lot of exploitation based on technology and based on getting the most of our assets. In fact, we're getting better than what we hoped for when we started trying these horizontals and water floods and oil-based mud, you name it. And these quick hits or optimization of big fields like Soka will only continue. Eric, do you want to add to that?

Yeah, thanks, Matt. I mean, we have had a big shift in focus to exploitation activities. I think about our focus in three mature fields that were very mature, producing about 1,500 barrels a day, you know, a year and a half ago. They're up over 8,000 barrels a day today. So new technology, looking at all the opportunities a second time is creating a lot of low-risk opportunity for us to go forward and optimization.

Just one follow-up for me as well. Just wondering if you can speak a little bit to capital and where you would expect that to trend going forward.

Yeah, sure. I think what you can do as you want to look into the future is still reference a three-year plan. We're on track to deliver that and really set ourselves up well going into the fourth quarter, over 60,000 barrels a day. And what we're aiming for is to improve capital efficiency. And that means really higher production with less capital required as we've made these investments really in infrastructure over the last two years.

That's great. Appreciate the detail. Thanks, guys. Thanks, Luke.

Your next question will come from the line of Roman Rossi with Canaccord. Please go ahead.

Morning, and thanks for taking my question, guys. Just regarding Beam 43, now that Julie Mosher was on the drive and the capital commitments were filled, are you expecting to relinquish the block, or are you considering any other activities there?

Pass that one over to Eric.

Sure. Thanks, Mike. We haven't come to a final conclusion there. Of course, we just tested the well. We're understanding what we saw and looking at that play that we were chasing there, an additional play. So we don't have a conclusion there. We don't have any immediate activity planned in VIM43, but we are looking at all the prospects yet.

So that is still to be decided. Okay, thanks.

And regarding reaching full capacity, production capacity at Capachos, when are you expecting to reach that? And does it depend on new wealth or just existing wealth?

Go ahead, Eric. Thanks. For the most part, or fully, that is, existing wells. You know, we have three wells that have been basically shut in for the majority of the year so far. Andina 2, that's a very prolific well, and the entire Capacha sewer compartment. So really, this is bringing volumes online with pump changes and final completions. And we expect to complete a large majority of that work in August. So we are expecting to go back up to capacity in the very short term.

Okay, same time. So if I look at your three-year-based development program, you are projecting like 63,000 barrels for 2024. So what's the exit rate for 2023?

Roman, we put into our news release with their revised guidance that we want to exit above 60,000 barrels a day in Q4. And that really positions us well for that three-year plan where we said we'd be at 63,000 as an average for next year.

Okay. Thank you very much. That's all for me.

And once again, to ask a question, please press star 1 on your telephone keypad. Your next question will come from the line at the Kevin Fisk with Scotiabank. Please go ahead.

Thanks for taking my question. The Brent-Bastonia differential narrowed in Q2, and I'm curious how you're thinking about the differential going forward.

Yeah, thanks, Kevin. You know, I think traditionally the Bastonia differential, if you look at a five-year average, has probably been between you know, $4 to $5 a barrel. We had it much higher at the start of this year. It was about $8 to $10 a barrel. And, you know, it's gone down. We've seen even some bids below $4 in the last couple of months here. You know, differentials, as you know, looking at Canadian differentials, it's very tricky to forecast. But we are seeing very positive things with, you know, the TMX or Dos Bocos in Mexico really moving crude out of the Gulf Coast, which is really the price marker for us. So, you know, we're forecasting it to be in this $4 to $5 as we go forward here for the rest of the year.

Okay, thanks. That's it for me. Thanks, Evan.

Your next question comes from the line of Samuel Chen with Alliance Bernstein. Please go ahead.

Thank you. Just a quick question. If you can help me to understand, how are we getting from the $54,000 this quarter to $60,000? I read your press release. We got Capaccio for about $2,000, Arruca for about $1,000 a bit, and you have the production declines at Soca. But even if I add them all up, we're not getting back to 60,000. If you can help me understand, that'd be great. Thank you.

Great. I'll pass that to Eric.

Sure. Thanks, Mike. The main areas for our production goals are, as I mentioned already, the capacious area. That is essentially bringing the field back online. Second, of course, we've mentioned Arauca. Those wells, as I talked about in our investor day, historically have capabilities of 5,000 plus gross per day. So there's a lot of potential there. In addition, we have a very robust program underway in Soka regarding the horizontal wells. so we talked a little bit about the horizontal walls we built we're exploiting the mirador reservoir there that has about 120 million barrels in place but we have not yet found a a good way to produce it we think we found that now uh the horizontal walls are producing well above expectations so that horizontal program in 34 uh replacing some of the some of the uh program we had means that we grow in 34, more than replaces declines and grows in 34 going forward. So we've highlighted the main areas we're focusing on. In addition to that, we still have the conventional development going on in Cabristero and Block 34 that continues to this day. We have some of the quick hits, Lucero. We are drilling that horizontal as we speak, almost in the horizontal zone. So we expect to have that on production. We know there's oil there. We know it's a very prolific reservoir that will be multi-thousand barrels a day. So when we add it all up, in addition to the key areas we've highlighted and all the other programs, that's how we get there. But the very short-term catalysts, I would say, are going to be the Lucero online and just restoring compatriots. That in itself is going to be a very big jump for us.

Thank you. Just a quick follow-up.

Can I assume that the roughly 3,000 barrels per day of sequential increase we're seeing from Q2 to Q1, this is just from the partial recovery. It's not related to any of those enhancements that you just mentioned at the last minute.

Correct. We have not So far in the first half of 2023, our downtime in the northern channels has been significant in the range of about 70%. And so we've been on partial production and we're trying to get to that full production. And we should be there in the next couple of few weeks. And as Matt alluded to earlier, we see a different scenario up in the area right now and in a different context. environment that we believe will be able to continue operating normal downtime and deliver those volumes.

Thank you. Thank you, guys. Best of luck.

Your next question will come from the line of Oriana Kovalt with Balance. Please go ahead.

Hi, thanks for taking my questions. I have two, if we may go one by one, that would be great. And the first is a follow-up with regard to the horizontal drilling in Janus 34. Just to understand it and seeing that it has been successful and volumes continue to be steadily going in Janus, like when do you expect to reap the benefit of this horizontal drilling program, and when should we see, what would be a reasonable, quote-unquote, expected production growth in the area seen this horizontal drilling program?

Eric? Thanks, Mike. Yeah, the horizontal program in 34, so let me talk a little bit about what our expectations were and what we're seeing. Again, 120 million barrels of oil in place, good quality oil, trying a new technique to extract it. First horizontal well that's been on production for just over four months came on production, over 3,000 barrels a day. We expected it to decline a lot more than it has. It's still producing about 2,500 barrels a day. So we've had payout in about three months. The second horizontal well has come online with similar type of performance. And today we're in the 4,500 to 5,000 barrel a day gross production from a couple of horizontals in Block 34. Both ourselves and our partner are very excited about this development. We have shifted capital based on the results to this horizontal program and are replacing some of the conventional development and take advantage of this horizontal development and adding another three wells that will be online this year in 2023. Now, the impact of that is growth towards the end of the year in block 34. So more than maintaining decline with a smaller number of wells and actual growth in production. So you're already seeing some of that benefit, a little bit of it. Like I say, the second well just came on production about a week ago. So you're not seeing the full potential. But going forward, the exciting part is for us not only uh this program that's going to be three to four wells firm going into 24 but where else can we apply this technology we're getting better at it we're drilling the wells more efficiently for lower cost and and there are a lot of areas that we can use this technology to exploit even in soka and i wouldn't be surprised if you see this going into uh thinner areas in the mirador possibly areas in the paleocene and so we're learning as we're going and getting better and it's exciting program for both ourselves and our partner perfect thanks that that's very clear and very encouraging for for the area um just one final one regarding

Seeing your cash position dropping below average levels, of course, owing to the cash tax payment and their tax payments and so on. I just wanted to touch base if you provide like a target cash balance or where do you see as an optimal cash balance being, of course, the distributions to shareholders via dividends and buybacks for the remainder of the year.

Great. I'll pass that to our CFO, Ken.

Thanks for the question. You know, the dividend and the buybacks are funded from the free cash flow that's generated from the operation. So I don't need cash on hand for that because, you know, we're pretty confident on what we're going to generate for the next year. And sure, it's subject to commodity prices, but at the same time, um we've been through lots of different commodity price scenarios in colombia and it's a very profitable business and we do have control over our capital's discretionary our capital expenditures so um you know i don't look at our beginning cash balances paying a dividend or anything like that and you know where's an optimal well you know we like the traditionally we run you know higher than a slight deficit we do have a 200 million dollar line that we haven't drawn for six years with the banks Don't expect to have to draw at this time either. But, you know, I think at the end of the year, if at $80 oil in Vesconia and hitting our production midpoint of our production targets, we should build our working capital back up to that 50 to $100 million range. And that means probably 150 to 200 in cash, because included in that 50 to 100 million is all our tax payable for that year, for the current year that's paid in the following year.

So cash is always ahead of working capital. if that helps.

Yeah, perfect. That helps. Thanks very much.

And with that, I'll turn the call back to Mike Crookton for any closing remarks.

Well, thank you very much for joining us today, and especially in this new format. We appreciate you being on the call. And if you have any questions, please feel free to engage us directly at PARACS. And with that, we'll close the call and have a great summer.