Gran Tierra Energy, Inc (NYSEMKT:GTE) Q2 2016 Earnings Conference Call August 8, 2016 11:00 AM ET
Gary Guidry - President and CEO
Ryan Ellson - CFO
Nathan Piper - RBC Capital Markets
Shahin Amini - TD Securities
Isuru Sen - Radiant Value
Ian Macqueen - Paradigm Capital
Good day ladies and gentlemen. And welcome to Gran Tierra Energy's Results Conference Call for the Second Quarter 2016. My name is Wayne and I will 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 for securities, analysts and institutions. 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 Monday, August 8, 2016 at 11:00 AM Eastern Daylight Time.
Please be advised that in addition to historical information, our discussion during this conference call will include forward-looking statements. These forward-looking statements are based on management's current expectations, a number of significant assumptions and are subject to a number of other factors and uncertainties, which could cause actual results to differ materially from those described in the forward-looking statements. The factors that could cause actual results to differ are discussed in Gran Tierra Energy's Form 10-K, Form 10-Q and other reports and filings with the Securities and Exchange Commission. Gran Tierra Energy does not undertake any duty to update any forward-looking statements.
Today's conference call also includes certain financial measures that were not prepared in accordance with Generally Accepted Accounting Principles in the US, including operating netbacks, fund flows from operations, EBITDA and adjusted EBITDA. The press release disseminated by Gran Tierra Energy this morning includes a reconciliation of those non-GAAP items with the company's GAAP net income or loss or net cash flows provided by operating activities as well as information on why management believes these measures are useful in evaluating the Company's performance and is available on Gran Tierra Energy's website at www.grantierra.com. All dollar amounts mentioned in today's call are in US dollars unless otherwise stated. Finally, this earnings call is the property of Gran Tierra Energy Inc. Any copy or rebroadcast of this call is expressly forbidden without the written consent of Gran Tierra Energy.
I will now turn the call over to Gary Guidry, President and Chief Executive Officer of Gran Tierra. Mr. Guidry, please go ahead.
Our second quarter report on Form 10-Q has been filed on EDGAR and is available on our website at www.grantierra.com. I'm going to begin today by talking about some of the key developments for the second quarter and the drilling program for the second half of 2016. Ryan will then discuss some additional key aspect of this quarter's results. We will then open the line for questions. Gran Tierra's strong results in the second quarter of 2016 clearly demonstrate that we are well-positioned for ongoing success in Colombia. We are committed to being a low-cost operator that is not merely trying to survive in the current environment, but rather thrive and position the Company for future growth. We continue to significantly drive down both capital and operating cost. We have successfully reduced our combined operating and transportation expenses to $11.75 per barrel of oil equivalent in the second quarter, a decrease of 34% from one year ago.
We continue to focus on organic growth as well as remaining disciplined on accessing business development opportunities. We are very excited about the $525 million transformational acquisition of PetroLatina. The ANH or the National Hydrocarbon Agency of Colombia approved the acquisition on July 29 and the transaction is scheduled to close later this month. The acquisition of PetroLatina represents a unique material opportunity in Colombia in terms of scale, an upside optimized oil development potential with the new core area for Gran Tierra and the prolific Magdalena Basin. The combination of Gran Tierra's strong positive cash flowing asset-base and PetroLatina's attractive portfolio of development opportunities will create a premier Colombia-focused exploration and production company. The acquisition is expected to increase Gran Tierra pro forma year-end 2015 proved plus probable or 2P reserves by 70% to 129 million barrels of oil equivalent. In addition to the 53 million barrels of oil equivalent of 2P reserves, the acquisition adds 45 million barrels of possible reserves.
In addition to our strong exploration portfolio, it's exciting to have such material possible reserves for our strong technical and operating team to focus on converting to shareholder value. Following the acquisition, we will operate over 90% of our production reserves. Ryan will provide more detail on the PetroLatina transaction shortly. Overall, Q2 was a strong quarter despite a difficult and volatile oil price environment. The low production declines and low-cost structure at our two core conventional operated fields Costayaco and Moqueta highlight the strength of our asset base. Combining the operating control of quality assets and strong technical and executing teams and a strong balance sheet, our keys to success in any environment but highlighted in a challenging oil price environment as we are in today.
While working interest production before royalties was up only 1% in Q2 versus Q1, we deferred a majority of our workover program until the second half of 2016 as we anticipate higher commodity prices later in the year. With the completion of our current workover program and the appraisal activity in Putumayo-7 block, we expect to be in line with our 2016 production guidance. Our forecast for total development exploration capital in 2016 remains at $140 million to $150 million. We will provide updated production and capital guidance for 2016 in September, shortly after closing the PetroLatina acquisition. During Q2 at Costayaco, artificial lift was optimized in six wells, which resulted in an estimated incremental production of approximately 2,140 barrels of oil per day. We are currently producing 37,000 barrels of fluid at Costayaco, with facility's capacity up to 55,000 barrels of fluid per day.
Production is expected to be continuously optimized as water cut increases from maturing water flood activities at Costayaco. We have budgeted well workover inventory scheduled for Q3 with an estimated investment of $5.7 million and an expected production gain of approximately 2,000 barrels of oil per day. During a workover at the Costayaco-1 well during the first week of August 2016, a ten-foot interval of N-sands was perforated, which naturally flowed at test rate of 392 barrels of oil per day, 22 degree API oil with a 1.8% water cut through a fully opened two-inch wellhead choke. With this encouraging test showing N-sands quality and production potential, our technical team is developing plans to further assess the N-sands at Costayaco.
During Q2 at Moqueta, artificial lift was optimized in three wells, which resulted in an estimated incremental production of 890 barrels of oil per day. We are currently producing 8,200 barrels of fluid per day at Moqueta with the facility's capacity up to 15,000 barrels of fluid per day. We have budgeted well workover inventory scheduled for Q3 and Q4 of this year with an estimated investment of $4.3 million and an expected production gain of 1,700 barrels of oil per day. With the development programs of the reserves we currently have booked at both Costayaco and Moqueta completed during the second quarter, free cash flow from these core two oilfields can be used to fund our future exploration appraisal and development programs.
In conjunction with closing the PetroLatina acquisition, we have started the licensing process to drill the first two wells at the Acordionero field in the Middle Magdalena Basin. The first well is expected to spud in the third quarter of 2016. Our 2016 exploration program is also underway. Guriyaco is potentially a separate pool adjacent to the Costayaco field scheduled to spud this quarter. Cumplidor, an N-sands exploration appraisal well in the Putumayo-7 block is scheduled to spud this quarter and will be followed up immediately from the same drilling pad with another N-sands exploration well, Alpha-1.
These wells are the first to test the N-sands exploration play in the Putumayo-7 block, which we believe is highly prospective and is expected to lead to long-term reserves and production growth. Lastly, in Brazil, we continue to optimize production and ultimate recovery with our water injection project. In Peru, we continue to look at alternatives to maximize shareholder value. And in Mexico, we continue to actively evaluate business development opportunities. However, we maintain our disciplined long-term view that any investment opportunity in Mexico must offer compelling value and be a strategic fit for the company.
I will now turn the call over to Ryan who will discuss the key aspects of this quarter's results and provide more details regarding our acquisition of PetroLatina.
Good morning. Overall, Gran Tierra had a strong second quarter. The focus in Q2 2016 was on executing our capital program, continuing to drive down cost and maximize efficiencies, closing $115 million convertible senior notes offering and the negotiation announcement of the transformational PetroLatina acquisition and the associated supersede financing and the new $130 million debt facility. During the first half of 2016, our 2016 capital program has come in on schedule and under budget, which is a positive indication that our efforts to reduce cost and improve capital discipline have been successful. We believe that with the acquisition of PetroLatina, Gran Tierra will become the largest listed, independent Colombian-focused E&P company in terms of reserves and resources. The acquired development portfolio is complementary to Gran Tierra's low decline production, exciting exploration portfolio, strong cash flows, reserve base and balance sheet strength.
Even though the PetroLatina acquisition is quite material, we will continue to systematically review additional acquisition opportunities. We were often asked if this is the last acquisition we will do for the foreseeable future, and the reality is we believe it is our responsibility to continuously assess opportunities that increase our net asset value per share and are accretive to shareholders. We will continue to remain disciplined in terms of allocation of capital. Any future opportunity must be accretive to shareholders just as we expect the PetroLatina acquisition to be across key metrics such as reserves, production, cash flow and net asset value.
With respect to evaluation and as discussed in our previous conference call, you can never steal top quality assets no matter what the price environment you're in. There are plenty of rats and cats available that you can buy approved developed producing valuations, however these are not tier-1 assets. With a low price environment - what a low price environment does is allow financially strong companies such as Gran Tierra to purchase top tier assets that would not be available otherwise. Gran Tierra will pay approximately $525 million for assets with a 2P before tax, NPV10 of $990 million as assessed by our independent reserve evaluator. We also expect this acquisition at full cycle FD&A cost less than $15 per barrel, which is below the [indiscernible] cost in Colombia over the last three years and we’ve stacked up well against most basins in the world.
We expect that 2017 netbacks of greater than $30 per barrel. This equates to recycle ratio of over 2 times. While some metrics may appear expensive on a per flowing barrel basis, PetroLatina's main asset, the Acordionero field, is a conventional reservoir with low future development cost. Production is expected to increase relatively quickly with appropriate allocation of capital. The Acordionero field was started for capital and we believe based on near-term drilling its production can double in the next 12 to 18 months. We will continue to focus on NAV per share, for cycle ratio, FD&A cost, forecasted free cash flow and IRR. We are a returns-focused company. Our strong balance sheet has allowed Gran Tierra to pursue the PetroLatina acquisition to further expand and diversify our asset base.
With $211 million of working capital at the end of the quarter, robust cash flows and undrawn credit facility, we are well-positioned to fund the acquisition. We expect to fund the PetroLatina acquisition through a combination of our current cash balance, the proceeds from our private placement of $174 million, available borrowings under our existing revolving credit facility and $130 million of borrowings under a new one-year term loan. [indiscernible] some of the key highlights from Q2 2016. Our second quarter funds flow from operations increased to 192% relative to the first quarter of 2016 to $34 million. This strong fund flow generation at an average Brent price of $45.52 per barrel of oil for the quarter is a testament to the quality of assets and our strong - and our cost structure.
Brent increased 35% from the first quarter of 2016, while Gran Tierra's realized oil price increased 42% to $35.15 per barrel in the same period. The strong quarterly funds flow is driven in part by a strong rebound in our operating netback, which increased 108% quarter-over-quarter to $23.40 per Boe. During the first half of 2016, Gran Tierra's funds flow from operations of $45 million covered our first half 2016 capital expenditures of $45 million. Our second quarter 2016 net loss of $64 million was largely the result of $62 million of non-cash impairment losses, net of income tax recovery resulting from the continued low commodity price environment. Capital expenditures for Q2 2016 were $18 million and in line with our annual forecast.
Thank you, Ryan. As mentioned, we have seen strong results at both the Costayaco and Moqueta fields during the first half 2016 despite the challenging oil price environment. Ryan summarized the strong financial position of the Company as we execute our strategy of expanding and diversifying our asset base in all of the productive basins in Colombia. Petroamerica and PetroGranada earlier this year and PetroLatina scheduled to close later this month, were accretive to current value and more importantly, provide a portfolio of future growth and value per share. We see more opportunity on the horizon and our team is committed to our disciplined approach to value creation.
Over the next six months, we have a very active drilling program. In the third quarter, we plan on spudding Guriyaco-1, Cumplidor-1, and N-sands target and the Acordionero-5 development well. In the fourth quarter, we anticipate spudding Siriri-1 and Alpha, both N-sands exploration targets; Crypto-1 in the Llanos Basin and Acordionero-6 and 7. As we begin our drilling program to ramp production at the Acordionero field, we will be able to appraise the significant 45 million barrels of possible reserves. This is an exciting growth opportunity to move possible reserves to 2P net asset value per share. Our team is focused on emerging from the current low oil price window as one of the strongest and largest independent Colombia-focused exploration and production companies with a robust portfolio to grow net asset value per share for all of our stakeholders.
Now we'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 Instructions] Our first question is from Nathan Piper from RBC Capital Markets. Please go ahead.
Thanks. Good morning, guys. A couple of questions for me, if I may. First of all, on the drilling, so obviously the pace of exploration drilling is picking up in the second half. Are there any possible constraints or are there any reasons why these wells won't be drilled across Q3 and Q4 as you outlined? And also can you just reconfirm that number, for the resource number that you're targeting in the second half please?
Yeah. I think on the timing, we have approvals in place at Cumplidor and Alpha. It's really a matter of getting the samples work done in Southern Putumayo. We are having some local issues, strikes, where the governments are going in and eradicating coca farming, but we believe that is all manageable and we'll get that program kicked off. Siriri is a well that is dependent on an environmental permit and we're on track to get that in place. At Crypto, we have secured the land rights to do the samples work. So overall, it's not bulletproof, but we're confident that we'll get the program within the timeframe at least started. And if there's any slippage, it will be weeks, not months. Nathan, what was your second question?
Just you mentioned the total resources you’re targeting, I just wondered if you could just reconfirm that, you’re too quick. I think you mentioned 45 million barrels or something. Just wanted to confirm that please.
Yes. The 45 million barrels is McDaniel’s estimate of possible reserves just at the Acordionero field. We were quite excited about that because it's really quantifiable with 3D seismic, with lots of production history pressure data. And it's simply a matter of getting all of the information we need for water flooding in place, and to some degree testing a deeper oil water contact.
Great. And my second question was just around production and the pace of workovers. Obviously, the first half production has been a little shy of the overall 2016 guidance, which you’ve reconfirmed. So I'm just trying to understand how you add this roughly 4,000 barrels a day of extra production for workovers and how that kind of all fits together with your current guidance?
Yes, and we are admittedly managing, just based on what oil prices are doing because we operate all of our production. It allows us in both Costayaco and Moqueta to manage when we fire up the workover rig and we have done that here in July. We started the regular maintenance of wells, changing pumps and some water conform its workovers. And the second part of that, Nathan, is Cumplidor. Cumplidor is an exploration well, but in our view, it's also an appraisal well. We have -- McDaniels had booked 2P reserves, as we can see the Quinde field extending into the Putumayo-7 block. And it's really been a matter of getting that well spud. The workovers are in our control, that's several thousand barrels a day, I mentioned two at Costayaco, and about 1,700 at Moqueta and the rest comes from the Cumplidor where we're ready to go and put it on production immediately.
Okay. Thank you very much.
Thank you. The following question is from Shahin Amini from TD Securities. Please go ahead.
Thank you. Good morning, gentlemen. A couple of quick questions. Your Costayaco and Moqueta workovers, I think that added around 3,000 barrels per day. But what was the contributions to your Q2 '16 average? And following from that, how should we think about the production profile for Q3 and Q4. And one quick question on the cost. Your OpEx is down, obviously significantly year-on-year to $8.70, but it seems up slightly quarter-on-quarter by about 6%. Is that just a one-off or were there any specific issues to explain that?
I'll answer the question on rates and Ryan can address the OpEx. We are targeting and managing to the lower end on our existing assets at Moqueta and Costayaco, and it really is a matter of timing on workovers. And that shift in the workover is also, ends up being a shift in year-end exit rates, which will be higher than we actually forecasted. So we're quite comfortable these are mature, very predictable fields. And the Acordionero field is separate, totally separate from our original guidance. We'll hit the range of our guidance and we'll come out with additional guidance beyond that with the -- not only the existing assets within PetroLatina, but what we're planning to do kicking off the development program at Acordionero. Ryan?
On the operating cost, as you're aware, they do move around a little bit depending on how we monetize our oil via trucking or pipeline. We did start some of the workovers at the end of the second quarter. So we actually have the cost booked in the quarter, but we don't see the benefit until the third and fourth quarter. So I would say our costs are consistent with our expectation.
Okay. Thank you.
Thank you. The following question is from Isuru Sen from Radiant Value. Please go ahead.
Good morning. Thanks for the update. Very exciting development on the Costayaco, on the N-sands. Could you just give a rundown of Costayaco, what's the expected primary, secondary with water floods and potential of what it could be if you -- or comparable fields, with chemical, if you are, what could it be?
Sure. I think the most encouraging thing about having this production test in the Northern Putumayo basin is it shows us productivity of the rocks. The oil quality, those are big. And it's very clear that coming out of Ecuador, the Oriente basin extending and becoming the Putumayo basin that you have very high-quality permeabilities, look at the Cohembi field or the Quinde field. No question to remind what we're looking for exploration-wise with the N-sands. But this is really as another data point in the northern end of the basin. In terms of recovery, we're really looking at how extensive these sands might be. We can see them on seismic. We have penetrations from wells that have been drilled in the Costayaco field. So our team are just in the process of evaluating the extent of the sands and then we'll be able to look and see if we'll be able to water flood it or not.
At this point, do you have a sense of how long Costayaco and Moqueta production can stay flat, if you don't have [Technical Difficulty]?
Yes. I think the one thing we're trying to point out on our conference call is we have additional facilities capacity. These are -- in the case of Costayaco, we are well into the water flood stage where we -- it's a matter of water management. And we have lots of room to do that with facilities, capacity, with very productive wells. And Moqueta is just starting off the water injection program. And -- but we do, again, have facilities capacity at both of those. So it allows us to manage and increase production as we try to optimize the floods in both. And so I think both of those fields together, we would expect, certainly over the next 12 months, to be flat. And from there, it really is a matter of increasing our lift in both of those fields.
One more question and I'll jump out. Just thinking overtly, obviously, the acquisition and the expression prospects are very exciting, and that's the change that you brought to the company. Before you brought on all these things, you were buying back shares of the company, at least some of that. Is there a point that that option looks interesting versus going and developing some of these or exploring some of these prospects or how do you think of, I guess, value equation on a per share basis by buying back stock versus exploring at this point?
Yes, I think our stock buyback, we were targeting, as the oil prices were $30 a barrel and we were below $2.50 a share, just a compelling thing to do. And we believe that we have the balance sheet to do both, to buy back shares but also pursue exactly what we've done this year, which is acquisitions to expand and diversify our portfolio. I think we have a very good portfolio today, even before the PetroLatina acquisition. And we try to demonstrate that in our Investor Market days that if you take our exploration portfolio today and we just stopped, we feel very comfortable that we have the cash flow to drill all of our exploration portfolio. With the risk success, we have the ability to hit our stated target of three times return on equity over the next five years.
And so we're quite comfortable that we have the balance sheet to go forward with a very good portfolio, but we're also getting comfortable as the rest of the market are that we probably have seen the bottom in the market. It may be volatile here in the coming couple of quarters, but we're managing to that and we're kicking off our exploration program. A part of that was, as Ryan mentioned in our last conference call, we started hedging and locking in the programs that we're kicking off. And we're comfortable enough with our hedges that we have in place and with what we see with the oil markets that we're focused on execution as opposed to stock buybacks.
Got it. Thank you very much.
Thank you. [Operator Instructions] The following question is from Ian Macqueen of Paradigm Capital. Please go ahead.
Good morning, guys. I think Nathan probably addressed most of my questions. But just for clarification, Siriri is still planned for Q4?
Yes. We don't have the environmental permit yet, but we expect to get it. And yes, it is scheduled for a spud in Q4. We have the rig slot secured in our current program. And we sure hope to kick that off. It's an exciting well.
Yes. No, absolutely. Definitely key in the enhancement of the N-sands, so I hope so too. Also I'm a little bit confused by your guidance. Can you just clarify for me, because before PetroLatina, the guidance was working interest of $27.5 million to $29 million. Post-PetroLatina, it’s the same guidance and you’re saying you’re going to be towards the low end. Now, that original guidance was set June 30 during your Investor Day. So can you just help me understand exactly what's changed and how you've delayed things so that the guidance ends up being unchanged, but now towards the lower end?
Sorry, I'll take responsibility for that. Obviously, it wasn't clear in our press release, is we revised guidance once we closed PetroLatina, so on our base assets, we are going to be at the lower end of our range. So we haven't revised our production guidance.
Okay. Now I understand. That’s very helpful. Appreciate it.
Sorry, my fault.
Okay. Thanks a lot.
The following question is from Isuru Sen from Radiant Value.
Just a follow-up question on the Colombia situation. Obviously, the peace accord looks very exciting and should give you better opportunities going forward. But how is it possible that the disarmament and all of these activities that are going to be proposed and taking place in Putumayo region, how would those activities -- how do you anticipate any of those activities affecting your production or production capacity in your region?
Yes. So the agreements have been signed. They will go to a vote -- to a ratification vote to the public, and that will happen here in the coming months. In terms of how does the peace process impact us, I think it allows us to move quicker in some areas, but it's not allowing us to move in to the areas, it's allowing timing. I think what it also does, and we have quite an extensive corporate social responsibility program, where over the many years that the conflict has been going on, there have been oil spills, there have been lots of things happen that we would certainly, as an industry, like to get in and clean up. We would like to get in and repair.
And we would like -- and we're in the process of working with the Colombian government to try to help in any way that we can behind the scenes logistically as they implement their programs for the economy, for jobs, for giving the former FARC members an opportunity to join society. And so in our view, it's very positive what's happening. It's certainly been a big year for progress in the final agreement. And the things that we're doing behind the scenes are assisting the governments and their programs, but more importantly, things that we can do that we are good at in terms of cleaning up spills and those type things.
Great. Thanks again.
Thank you. Gentlemen, there are no further questions at this time. Please continue.
Okay. Thank you, operator. I'd like to thank everyone for joining us today. We appreciate your support. And we look forward to speaking with each of you over the next quarter and update you on our ongoing progress. It's an exciting couple of quarters in front of us and we look forward to communicating those results. Thank you very much.
Thank you. That concludes today's conference call. Please disconnect your lines at this time and we thank you for your participation.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: firstname.lastname@example.org. Thank you!