PRESIDENT’S MESSAGE TO SHAREHOLDERS
During the first nine months of 2018, Pine Cliff minimized production decline while keeping capital expenditures at a relatively low level. During this challenging price environment, we continue to focus on reducing both operating and overhead costs and finding innovative ways to maximize our natural gas price. Significant highlights from Pine Cliff’s third quarter were:
• realized adjusted funds flow of $1.9 million during the quarter with realized pricing of $1.88 per Mcf, despite AECO daily 5A natural gas pricing only being $1.19 per Mcf;
• achieved average production for the nine months ended September 30, 2018 of 19,721 Boe/d (118,326 Mcfe/d), down from 21,387 Boe/d (128,322 Mcfe/d) for the nine months ended September 30, 2017, despite only incurring $3.2 million of drilling and recompletion capital during this period;
• entered into an amended and restated credit agreement with our banking syndicate for an $11.0 million revolving credit facility; and
• completed a private placement for gross proceeds of $19.0 million from Alberta Investment Management Corporation to pay down bank indebtedness and provide additional working capital.
Impact of Our Marketing Diversification Strategy
The success of our 2018 marketing diversification strategy was highlighted this past quarter. Despite the AECO daily 5A reference price being 18% lower in the three months ended September 30, 2018 compared to the same period in 2017, realized natural gas pricing for the third quarter of 2018 was 1% higher at $1.88 per Mcf. This realized natural gas price was an increase of $0.69 per Mcf, or 58% above the average daily AECO price. That is an impressive number and credit should be extended to our marketing, operations and field staff for this achievement. All levels of our organization continue to focus on improving what we can control, and unfortunately, that does not include gas prices.
Balance Sheet Flexibility
This past quarter we better aligned our balance sheet with our business model. By converting our shorter term focused bank debt to longer term focused term debt, we are now better able to make business decisions that focus on the long term nature of our business. We exited this past quarter with no bank debt and a positive cash balance of $4.6 million. By adding flexibility to our balance sheet, we believe we are in a better position to continue to selectively add to our assets, either by acquisition or organic growth.
Short Term Natural Gas Outlook
We are more optimistic on natural gas pricing as we enter into the fourth quarter than we have been for some time. Recently we have seen increases to future pricing, but we still feel prices are not yet at levels that should justify large increases of development for dry gas. Gas storage levels are always topical heading into winter and this year we are entering withdrawal season at the lowest peak U.S. natural gas storage level since 2005 and the lowest peak storage level in Western Canada since 2014. These storage deficiencies have occurred despite the fact that we have had the largest annual increase in natural gas supply in North America. The reason for the storage discrepancy to supply is that the increase in North American natural gas demand has been even larger than the supply increase this past year.
Another way to look at the current storage situation is to calculate the number of days of natural gas storage available to deal with the increasing demand. In each of the past five winters, the U.S. “days of cover” at the end of October has been approximately 60 days and this October it was at just over 40 days. Not only do we have materially less storage coverage this winter, but significant portions of the increases in the natural gas demand are attributable to much “stickier” or less elastic sources, such as LNG and Mexican exports, than in the past. As always, it should make for an interesting winter for gas prices, especially if we have colder weather.
Long Term Natural Gas Outlook
October 1, 2018 was a positive day not only for Western Canada, but Canada as a whole as an affirmative final investment decision (FID) was announced on the $40 Billion LNG export facility in Kitimat, British Columbia. While we know this project will not directly impact the supply and demand of natural gas in Western Canada for several years, it is a positive message for our country and energy industry that we can still compete globally for major energy infrastructure projects. This project may also open the door to other LNG projects in Canada that could further alter the natural gas supply and demand dynamics in Western Canada. It is exciting to imagine the potential positive impact of what the growth of an LNG industry in Canada could have on natural gas producers like Pine Cliff.
Pine Cliff Capital Expenditure Increase
Pine Cliff has historically grown by acquisitions since our business model allowed us to purchase assets at cheaper metrics than what it would cost us to grow our own production. Through these acquisitions, Pine Cliff now owns the mineral rights on close to two million acres. Although we continue to seek accretive acquisitions to our asset portfolio, the increase in oil pricing and improvements in drilling technology have accelerated some internal drilling opportunities and our Board of Directors has agreed to increase our 2018 capital expenditure budget from $10.4 Million to $13.4 Million which will allow us to drill our first oil well in the fourth quarter. This is just another example of us allocating capital to areas where we think we can generate the best rate of return for our investors.
We thank you for your patience and support in the path we have chosen and we will continue to focus on maximizing long-term shareholder value.
President and Chief Executive Officer
November 6, 2018
Please refer to the attached Management’s Discussion and Analysis for Reader Advisories regarding forward-looking information, non-GAAP measures and oil and gas measurements and definitions.