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Good morning, ladies and gentlemen. Welcome to the Second Quarter Results Conference Call. I would now like to turn the meeting over to Mr. Dave Spyker. Please go ahead.
Good morning, and thank you for joining us. On the call with me today are Dave Hendry, our CFO; Rob King, our Vice President, Business Development; and Matt Donohue, our Manager of Investor Relations and Capital Markets. The second quarter marks a period where Freehold continued to execute its strategy, growing its funds from operations, reducing its debt levels, easing its dividend and, subsequent to the quarter, completing 3 value-enhancing transactions, showcasing the North American advantage that our royalty portfolio provides investors. To start this morning, I would like to talk about the dividend increase, and then we will focus on the excellent operational performance we have had. In conjunction, we are projecting 12% to 15% production growth over 2020. We will be increasing our monthly dividend by 25% from $0.04 per share to $0.05 per share starting in September to shareholders of record on August 31. This represents the fourth increase in the past 9 months. The dividend increase strikes a balance between maintaining the flexibility to continue to enhance our portfolio through acquisitions and returning value created by this work back to our shareholders at an appropriate pace. We continue to strive for further increases in our payout through a measured approach, moving the dividend upwards towards our long-term 60% to 80% payout ratio objective. On the acquisition front, we've had a very busy period subsequent to quarter end, announcing 3 acquisitions, which expand our position in the U.S., Permian and Eagle Ford plays, along with building our already strong position in the Clearwater in Canada. All transactions are expected to be funded with free cash flow and our existing credit facilities. In July, we closed the acquisition of certain U.S. royalty properties for $19.3 million. This transaction included exposure of the Eagle Ford, Delaware and Midland Basins, expanding Freehold's North American royalty footprint. Freehold forecasts greater than 500 gross development locations associated with the acquired royalty acres, plus near-term development upside from approximately 15 drilled and uncompleted wells and 30 permits, over 90% of which are forecasted 2022 development activity and approximately 50% are forecasted 2023 development activity. The acquired royalty assets provide exposure to a strong suite of E&P producers, with multiple year development plans expected on the acreage. 2022 funds from operations in the acquired royalty properties is forecast at approximately $2.7 million, with production of approximately 150 BOE a day. Yesterday, Freehold entered into a definitive agreement with OneMap Mineral Services, LLC to acquire concentrated, high-quality U.S. royalty package for $67.1 million, subject to confirmatory due diligence and any potential resulting adjustments, with the deal scheduled to close in October of this year. These Midland assets will play a key role in strengthening the resiliency of Freehold's North American royalty portfolio, enhancing near- and long-term sustainability of Freehold's dividend through multiple years of production and funds flow growth. The transaction provides a core Midland basin royalty position anchored by a premier counterparty with multiple years of future development. Freehold forecasts greater than 2,300 gross future development locations, with over 50% of the development expected to be economic at WTI prices less than USD 35 a barrel. Production volumes are forecast to grow by approximately 25% on a compounded annual growth rate from 2021 through 2024, with approximately 50% of development in 2022, underpinned by drilled and uncompleted wells and permits. 2022 production funds from operations from these assets are forecast at approximately 550 BOE a day and $9 million. The addition of the U.S. royalty acquisitions is in line with Freehold's strategy to add to our North American portfolio, further positioning us into high-quality development areas with multiple years of development upside and growth. And finally, in July, Freehold closed the Canadian royalty deal adding to the company's already strong position in the Clearwater play in Central Alberta. Total committed consideration associated with this transaction is up to $7.9 million to be paid in accordance with the drilling agreement for a 3% to 5% gross overriding royalty over 38.5 sections of land. 2022 forecast funds from operations associated with the acquired royalty assets is approximately $1.2 million, with production volumes forecast at 100 BOE a day. On the operations front, production for the quarter averaged 11,137 BOE a day, representing a 20% improvement over Q2 of last year and a 2% gain versus the previous quarter. The U.S. portfolio continues to perform above expectations, averaging 1,544 BOE a day in Q2 2021, a 20% increase from 1,285 BOE a day in the first quarter of this year. Growth in volumes reflect better well performance and slightly better than forecast activity levels on those royalty lands. In Canada, production averaged 9,593 BOE a day, up 4% from the same period in 2020, with gains associated with increased third-party spending on Freehold's royalty lands. After realizing actual results for the first half of 2021 and with Freehold's most recent acquisitions, we are implementing guidance for the second half of the year. We are forecasting production volumes to range between 11,000 to 11,500 BOE a day through H2 2021, with volumes expected to be weighted approximately 55% oil and NGL and 45% natural gas. On the drilling front, 84 gross or 2.1 net wells were drilled on our royalty lands in Q2, a 55% improvement on a gross measure versus the same period last year. With the upward move in crude oil prices, we have seen activity increase on Freehold plants, with approximately 16 rigs, 9 in Canada, 7 in the U.S., running on our royalty lands late in Q2. In Q2, approximately 40% of all locations on Freehold's Canadian assets targeted gross overriding royalty prospects, with 60% focused on prospects on Freehold's mineral title lands, 24% of locations drilled target prospects in Saskatchewan, 50% in Alberta and 23% in the U.S. on a gross basis. The vast majority of wells greater than 96% were focused on oil or liquids prospects. Through the first 6 months of the year, Freehold has seen consistent drilling activity in oil plays, such as the Viking, Sparky, Clearwater and Cardium. We are also seeing a strong increase in licensing and well spuds in the deep basin, as natural gas prices remained strong into Q2. We expect this resurgence in drilling activities that had started in June and has continued into Q3 2021 will result in incremental volumes being brought on later in this year and early next year. In the U.S., activity levels on Freehold's mineral title lands have met expectations, with the majority of the focus on light oil prospects targeting the Permian and the Eagle Ford basins. Overall, 25 gross wells were drilled on our U.S. royalty lands over the quarter, with the acquisition of additional U.S. royalty production subsequent to the quarter expected to further diversify and energize Freehold asset base, bringing added sustainability to its portfolio and its dividend. We have considerable optimism heading into the back half of this year, and we'll continue to focus on positioning Freehold to be a premier North American royalty company with a strong balance sheet, a sustainable dividend and prospects for growth in top-tier oil and gas operating areas. I will now pass the call to Dave Hendry to walk through some of the financial highlights.
Thanks, Dave, and good morning, everyone. Financially, as commodity prices improved over the quarter, Freehold continued to deliver on the core aspects of its return proposition, providing a meaningful dividend, while also providing investors with a lower risk investment, differentiating itself from traditional oil and gas E&P companies. Royalty and other revenue totaled $44.9 million for Q2 2021, up 22% from the previous quarter in 2021. Funds from operations for Q2 2021 totaled $40.2 million or $0.31 per share, up 24% versus the previous quarter and very close to our all-time high. Freehold's royalty revenue and funds from operations benefited from strong upward momentum in crude oil and natural gas prices. With growing production, particularly in the U.S., which received better pricing relative to our Canadian assets, which helped to further strengthen Freehold's already strong operating margins. Freehold's dividend payout totaled 33% for Q2 2021, up slightly from Q1 2021 and down from 92% from the same period in 2020. As previously mentioned, we increased our monthly dividend for 2021 from $0.04 per share to $0.05 per share, reflecting a measured response to an improved commodity price outlook, better-than-forecast production and an expected increase in third-party spending on our royalty lands in 2021. For Q2 2021, cash cost totaled $4.48 per BOE, slightly up from $4.37 per BOE in Q1 2021, but down 6% from the same period last year. This strong result reflected reduced G&A and operating cost charges, alongside improved production. Acquisitions completed subsequent to the quarter end are expected to only add a marginal amount of G&A, which should continue to improve our corporate cost base and net back. Net debt totaled $40.8 million on June 30, 2021, representing 0.4x net debt to funds from operations. Overall, Freehold reduced its net debt by $24 million versus the previous quarter and by $55 million from the previous year. The decrease in net debt reflected stronger funds from operations, alongside a lower dividend payout. Freehold's prudent strategy of maintaining net debt to funds from operations between 0 and 1.5x alongside a longer-term dividend payout target range of 60% to 80% of funds from operations provides cushion for potential volatility in commodities. Now back to Dave for his final remarks.
Thanks, Dave. So we've had an exceptional quarter, and we remain enthusiastic about the next 12 months of operations. We've seen a steady trending up of capital and production volumes on our lands, both in Canada and the U.S.. And at current commodity price levels, our high royalty margins offer significant option value to provide returns to our shareholders. With today's increase to our 2021 monthly dividend, we highlight that this is the fourth time in the past 9 months that we have revised our 2021 payout upwards. The transaction subsequent to quarter end are expected to provide both near- and long-term value for our shareholders and further our execution to be a leading North American royalty company. Looking forward, the groundwork is in place for an exciting 2021 and beyond. The improved economic conditions are very positive for the industry and highlight the strength of our royalty model. Through execution of our strategy in the coming quarters, we expect to be able to showcase the strong return proposition to -- and investment in Freehold provides, with the ultimate commitment to maximize value to our shareholders. Thank you very much.
[Operator Instructions] Our first question is from Jamie Kubik with CIBC.
Historically, Freehold has run a pretty conservative leverage model in your business. Can you highlight maybe where you'd like debt levels to be moving forward, either on an absolute basis or in terms of debt relative to future cash flow generation?
Yes. It's Dave Hendry here. We haven't changed our strategy as far as the type of the level of leverage that we're looking at. Obviously, ending the quarter at 0.6x debt to EBITDA and 0.4 of net debt is definitely in a comfortable place. So we look to keep that within that range of 0 to 1.5x net debt to funds from operations, ideally lower than the 1x. And so when we're looking at acquisitions and how we will deploy dividends, that's definitely a consideration.
[Operator Instructions] Our next question from Elias Foscolos with Industrial Alliance Capital Markets.
I guess, I'd like to start with the trap line of potential acquisitions, particularly within the U.S. If we sort of take some slices in time and look at Q4, Q1 and today, would you say that, that trapline is the same or growing?
Elias, it's Rob King here. I would say -- I'll give you some stats for Q2 in terms of the number of opportunities that we looked at in both the U.S. and in the Canada. In U.S., we had over 100 opportunities come across our desks. And probably 2/3 of those, we took either some review, either light or deep review of those opportunities. In Canada, we probably saw about 20 opportunities that came across. So that was kind of a Q2 comment. Q1 wasn't quite as active as Q2 has been. And certainly, Q4 was even -- frankly, even less activity deals than that. The forward calendar continues to be very strong on the U.S. side. I think our -- we'll see the level of participation engagement that Freehold has in that. We're really happy with the 3 opportunities that we added to our portfolio post quarter end here, and we'll take some time to digest those. And we will still continue to look at mineral opportunities in both markets.
Okay. I appreciate that color. Focusing in on a couple of the drivers that might make it stronger. I noticed one acquisition was from one, which, frankly, I don't know a lot about the company, but they seem to be a royalty aggregator. What might be driving things in the U.S.? Could it be tax changes? Is it the capital markets putting the squeeze on U.S. producers and save to leaving the money to drill with it? Is it a combination of factors?
Yes. I mean, I think it has more to do with -- less to do with that last comment on the capital providers and end markets causing the upstream producers to have less capital because these are, for the most part, like 90, 95-plus percent of the assets that we've added are mineral title assets. They're not overriding royalty interest. So these are very much coming from private equity, mineral aggregators who built up these portfolios over the last 5 years or so. And frankly, with the events of 2020, it had no opportunity to consider divestments. So that's accelerating in 2021. You're absolutely right on the capital gains, potential changes in the U.S. There are a number of opportunities that we have been and are looking at where that is a significant driver for the seller to be looking to lock in for those effectively doubling of capital gains taxes.
Okay. I appreciate that color. And maybe I will have a number of questions. I'll stick with one more, and this is probably more on the financial side. Given the initial funding of this acquisition, would you be looking at using hedging in any manner?
Yes. This is Dave here, Elias. For hedging, we've looked at it, but we don't think that hedging is appropriate for these acquisitions. With stress testing at different pricing levels, we can easily accommodate this on the balance sheet and still advance the dividend increase that we've talked about. So we looked at it, but we don't feel it's appropriate for where we're at today.
Our next question is from Luke Davis with RBC.
Just another one on acquisitions. Given that you've got 3 in hopper here, can you just speak to the potential cadence of acquisitions going forward? Any expectation that you'll do more through the balance of this year? And then maybe just provide a little bit of color on what you're seeing in terms of valuations and kind of where you see that trending going forward.
Yes. Luke, it's Dave Spyker here. I'll answer that. For the balance of the year, we're going to continue to look at opportunities. With this -- with the one that we signed yesterday, that's going to be closing in October. So we'll continue to see if there's places for some smaller tuck-in deals probably through the balance of the year that you would augment that portfolio in certain cases and continue to look if there's opportunities for larger-scale deals that might really advance our portfolio in the core areas that we're looking at. So we don't see ourselves slowing down on evaluating opportunities. And if we see a deal that really works well in our portfolio, we'll continue to pursue that.
Yes. That's helpful. And I guess, you touched on it a little bit, but how are you thinking about funding going forward? And are there quite a few potential acquisitions that you wouldn't be able to fund internally?
Yes. I think that for the most part, we're looking at funding using our balance sheet. But that being said, if there was a larger deal that supported the use of equity, then we would look at that. Again, it has to check all the boxes as far as being accretive, fit well with our portfolio objectives of really being in front of the drill bit and adding an asset that can grow in the coming years, so that we ensure that we have that organic growth in the portfolio that we're looking to pursue. So we're not constraining ourselves with $1 per se right now. It's really looking at the opportunity. And if the opportunity is right, we'll look at how we fund it first with the balance sheet. And secondly, if it makes sense, then we'll use some equity.
Got it. Makes sense. And apologies, I think I jumped in a little bit quick there, but any comments on valuation would be helpful as well.
Yes. Luke, it's Rob here. In terms of valuation on the 3 acquisitions we announced post quarter end here, those were triangulated 6.5 to 7.5x cash flow. On an IRR basis, it's in the mid-teens for the -- for each of the 3 transactions, which is actually pretty similar to on an IRR basis to our November 2020 transaction, albeit with the combination of much better commodity pricing and even better production results coming from that -- our initial U.S. acquisition. That IRR is actually pushing north of 20%, 23%.
[Operator Instructions] Our next question is from Jeremy McCrea with Raymond James.
I just wanted to follow up just on what you're talking about, the amount of opportunities that you saw in Q2. So you mentioned that you saw about 100 different opportunities. Are these like in the $1 million scale? Or like, I'm just trying to get a better sense of size and potential for M&A growth going forward. And then if you wouldn't mind just going a little bit more in detail in terms of exactly what you're looking for in acquisitions? Is it commitment from different parties? Is it just accretion that you're looking for? Just a little bit more context around that as well.
Sure. I'll start on that one, Jeremy. In terms of the opportunities, it's really all over the size, the spectrum. I'd probably say the average would be in that $30 million to -- probably $30 million range. But for the most part, like, they're probably sub-30. And -- but there are -- those 80 that we looked at, at least 10 would have been over the $50 million of value level. And certainly, when we look at the forward calendar in terms of the larger packages, there are half a dozen that would be $50 million, $100 million plus in terms of size. So there's a -- the U.S. minerals market is very significant in size and scale. It's quite different than Canada, where Canada has 90% crown, 10% privately held. It's the inverse in the U.S., and the fact that the U.S. obviously has that much more production as well. So you sort of have those 2 multiplying factors, which create a significant amount of potential opportunity.
And Jeremy, just on what we're looking for in an acquisition, first off, it has to be accretive on cash flow, production and reserves per share basis. We're really focusing on high-quality counterparties and to ensure that we'll see continued development. We want to make sure that we call Tier 1 acreage positions, and we're looking in basins that provide economic development at less than $40 WTI. So again, it can survive any volatility in the industry. We want to make sure that those lands will still get drilled and contribute to organic growth. And lastly, they do have to have significant development opportunities, so that someone can continue to develop those lands and grow them year-over-year into the future, so that every deal that we're doing is layering on a little bit more organic growth. And so overall, the portfolio is improving, so that we can see a line of sight to growing production year-over-year without having to rely on acquisitions like we have in the past. If we look at this year, we're expecting significant production growth between '21 into 2022. And to achieve that, we don't have to do another acquisition for the next 18 months at least. And so that's a significant change in our portfolio and also allows us to be very selective and very patient in the type of deals that we're looking for, the bid level that we're comfortable with. And with the deal flow that we're seeing right now, if we don't find that metrics on the ones that are on our table right now, we're comfortable that there's more opportunities coming up shortly. So that patience has allowed us to get the right assets that we want in our portfolio.
There are no further questions registered at this time. I would like to turn the meeting back over to you, Mr. Spyker.
Okay. Thank you for everybody for joining today in the call. Like I said, we had an exceptional quarter, and the outlook going forward is very good. The industry is strong. We see lots of good opportunities in front of us. And we're really reshaping the company as we've known it to date. And so really excited going forward, and we look forward to catching up with each of you next quarter. Thank you.
The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.