Imperial Oil Ltd (IMO) Q1 2022 Earnings Call Transcript

Ladies and gentlemen, thank you for standing by and welcome for the Imperial Q1 2022 Earnings Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. I would now like to turn the call over to your host, Dave Hughes, Vice President of Investor Relations. You may begin.

Thank you. Good morning, everybody. Thanks for joining us today on our first quarter earnings call. I'll start by introducing the management team who is here with me. Brad Corson, Chairman, President and CEO; Dan Lyons, Senior Vice President, Finance and Administration; Simon Younger, Senior Vice President of the Upstream; Sherri Evers, Vice President of Commercial and Corporate Development; and Jon Wetmore, Vice President of the Downstream. So first of all I'll read the cautionary statement. Today's comments include reference to non-GAAP financial measures. The definitions and reconciliations of these measures can be found in Attachment 6 of our most recent press release and are available on our website with the link to this conference call. Today's comments may also contain forward-looking information. Any forward-looking information is not a guarantee of future performance and actual future financial performance and operating results can differ materially depending on a number of factors and assumptions. Forward-looking information and the risk factors and assumptions are described in further detail in our first quarter earnings press release that we issued this morning, as well as our most recent Form 10-K and all of these documents are available on SEDAR, EDGAR and on our website. So please refer to those. We'll follow our typical format. Brad will start with some opening remarks and then, Dan will provide a financial update then move back to Brad for an operating update and then we'll follow it up with a Q&A session. So with that, I'll turn it over to Brad.

Okay. Thank you, Dave, and good morning, everybody, and welcome to our first quarter earnings call. I hope you’re all doing well. Back in February, when I spoke to you about our fourth quarter results, we talked about how we wrapped up the year strong, with another quarter of solid operating performance and strong financial results. Our focus on ensuring our company was in the best position possible to take advantage of the market recovery was certainly paying off and I'm pleased to say, the positive momentum has continued into 2022. While it was a quarter that started with some pretty challenging weather conditions, which had an impact on production, particularly at Kearl, our other upstream assets such as Cold Lake and our downstream and chemicals operations performed quite well. As a result of this performance, when paired with the high price environment, we were able to deliver very strong financial results in the quarter. And now with the challenges at Kearl behind us and with the Sarnia turnaround wrapping up in April, which is the extent of our downstream turnaround activity for the year, we are well positioned to deliver more value in the coming quarters. Over the next few minutes Dan and I will detail the results of what was a very strong quarter. So, now, let's review the first quarter results. To start, earnings for the quarter were almost $1.2 billion, which represents our highest first quarter net income in over 30 years. And our cash from operating activities was just over $1.9 billion, also the highest first quarter in over 30 years. These results reflect our strong operating performance and the strong commodity fundamentals in the quarter. Crude prices continued to strengthen through the quarter, while both downstream and chemical margins remained strong. Total upstream production of 380,000 barrels per day reflects the impacts at Kearl of the severe cold weather that started in the late fourth quarter of last year and continued into the first quarter of this year, as well as some unplanned downtime at Kearl that I will discuss later. Our downstream continued to perform at a very high level, with first quarter utilization of 93%. Demand remained quite strong, as many of the remaining pandemic restrictions were lifted late in the quarter. During the quarter, construction of the Sarnia products pipeline was completed ahead of schedule, with start-up and commissioning completed in April. This is a key project for us, as it helps ensure reliable access into the Toronto market, which is our largest market and also drives a reduction in transportation costs of around $40 million per year. Our overall strong performance, once again, supported our ability to deliver on our priority of returning cash to shareholders. As you are aware, we completed our existing normal course issuer bid at the end of January and declared the largest dividend increase in our history on February 1. Completion of the NCIB amounted to $449 million returned to our shareholders in the quarter on top of dividends paid of $185 million. This morning, we declared a dividend of $0.34 per share payable July 1st and also announced our intention to initiate a substantial issuer bid, to return an additional $2.5 billion to our shareholders. I'll now turn it over to Dan, to go through our financial performance for the quarter in more detail.

Thanks, Brad. Getting into the financial results for the first quarter our net income of $1.173 billion was up $781 million from the first quarter of 2021, primarily driven by improved prices in the Upstream and higher margins in the Downstream. Now if we look sequentially, first quarter net income of $1.173 billion is up $360 million from the fourth quarter of 2021 supported by the improved market conditions we've seen throughout the first quarter of this year. Looking at each business line. The Upstream recorded net income of $782 million, up about $240 million from our fourth quarter's net income of $545 million driven by higher realizations partly offset by lower volumes at Kearl. The Downstream recorded net income of $389 million, up about $140 million from the fourth quarter's net income of $250 million reflecting the absence of the prior quarter's onetime charges, lower operating expenses and higher margins. Our chemicals business recorded net income of $56 million in the first quarter, down $8 million from the fourth quarter net income of $64 million as margins eased from last year. Moving on to cash flow. In the first quarter, we generated just over $1.9 billion in cash flows from operating activities an improvement of about $300 million from the fourth quarter of 2021 reflecting strong market conditions, along with favorable working capital impacts. Now excluding working capital, our cash flow for the first quarter was just over $1.2 billion down around $400 million from the fourth quarter of last year. It's important to note, however, that changes in working capital of $695 million for the quarter include $459 million of income taxes payable about a year from now in the first quarter of 2023. As we've discussed in previous calls, we expect relatively low cash tax payments in 2022. We paid about $200 million of cash income taxes in the first quarter of this year and we expect to pay about another $200 million in cash tax installments over the remainder of this year. While cash income tax payments are expected to be modest in 2022, as I just outlined we would expect in the current price environment that the income taxes payable line on our balance sheet would grow significantly over the remainder of the year, reflecting the expectation of significant cash tax payments in the first quarter of 2023. Our free cash flow for the quarter was $1.635 billion about $400 million higher than the fourth quarter of 2021. And finally, we ended the first quarter with over $3.1 billion of cash on hand our highest cash balance in over 30 years. Moving on to CapEx. Capital expenditures in the first quarter totaled $296 million, up $133 million from the first quarter of 2021 in line with our plans and full year guidance of $1.4 billion. Upstream spending in the first quarter was primarily associated with our in-pit tailings project at Kearl, which started to ramp up in the quarter as well as volume sustainment spending at Cold Lake. And the Downstream spending was driven by the Sarnia Products Pipeline, which was completed in March. Now shifting to shareholder distributions. Given our robust cash flow and our outlook for continued strong cash flow going forward, we have been very active in this space over the past year. Just to recap, we had record returns of cash to shareholders of nearly $3 billion in 2021. We ended 2021 with $2.1 billion of cash and generated as I just discussed $1.6 billion of free cash flow in the first quarter of 2022. This left us with a balance of over $3.1 billion at the end of the quarter after returning about $450 million of cash in January through our accelerated NCIB share buyback program and paying $185 million of dividends. Additionally in February, we announced a 26% dividend increase in our dividend to $0.34 per share payable on April 1. And as Brad mentioned, this morning we announced our second quarter dividend of $0.34 per share payable July 1. And finally in this long list and maybe the Capstone, we announced this morning our intention to launch a substantial issuer bid of $2.5 billion. The terms and pricing will be determined shortly and the bid is expected to commence within the next two weeks. I think it's fair to say this announcement clearly demonstrates our ongoing commitment to return surplus cash to shareholders. I know that this SIB has been eagerly anticipated. Certainly a number of you on the call have asked about our specific plans over the last few months some of you more than once. So we're certainly very pleased to be able to provide the clarity you've been looking for on our SIB plans today. Going forward we remain committed to returning surplus cash to shareholders. And as previously discussed we continue to plan to renew our NCIB at 5% later this year. Now, I'll turn it back to Brad to discuss our operational performance.

Thanks, Dan. Let's discuss our operating results for the quarter. Upstream production for the quarter averaged 380,000 oil-equivalent barrels per day, which is down 65,000 barrels per day compared to the fourth quarter and down 52,000 barrels per day compared to the first quarter of 2021. This decrease is mainly due to severe winter weather in Alberta that began late in the fourth quarter and continued into the first quarter, alongside some unplanned downtime at Kearl. It's also worth noting the ongoing strength in commodity prices. In the fourth quarter, several factors widened the WTI WCS spread, such as the phased start-up of Line 3 and other minor industry disruptions. However, we observed the spread narrow by about 20% or $3 a barrel in the first quarter, aided by egress and inventory draws in Western Canada. The spread has narrowed further, around $0.50 per barrel at the start of the second quarter, now falling in the $12 to $13 range, which is indicative of pipeline economics. As a significant bitumen producer, Imperial stands to gain from improved pricing for Canadian heavy barrels. Now, I'd like to discuss Kearl further. After an exceptional 2021, where Kearl set new production records in nine out of twelve months, we faced some challenges in the first quarter of this year mainly due to the extreme cold weather and unplanned downtime, issues we mentioned during our fourth quarter earnings call and at our Investor Day in March. In the first quarter, Kearl's production averaged 186,000 barrels per day gross, a decrease of 84,000 barrels per day compared to the fourth quarter and down 65,000 barrels per day from the first quarter of 2021. As you know, the first quarter is typically our lowest production quarter at Kearl due to seasonal factors related to winter conditions. However, this winter was particularly severe starting late in the fourth quarter and extending into January, leading to unexpected operational challenges, especially in our mining operations, resulting in prolonged unplanned downtime primarily in the ore preparation area as we worked to recover from a challenging start to the year. That said, I'm happy to report that our operations have largely returned to normal, with gross production in April month-to-date at 250,000 barrels per day. While the beginning of the year created difficulties in achieving our full-year guidance, we believe that altering guidance this early is premature. As you know, we are approaching our annual turnaround, and after that, we will assess whether an update is necessary. Kearl has a track record of exceeding expectations over the past two years, and the team is focused on recovering and achieving another strong year. Looking ahead to the second quarter, we've seen production levels return to normal. Additionally, we have our annual Kearl turnaround starting in mid-May, lasting about five weeks, with an anticipated gross production impact of around 10,000 barrels per day. Lastly, regarding Kearl's operating costs, we did experience a rise in unit operating costs this quarter, primarily caused by the lower-than-expected volumes. Long-term, our goal to reach $20 per barrel at Kearl remains on track, as we aim to increase production to 280,000 barrels per day and potentially beyond. Careful management of unit costs is vital to maximizing profitability at Kearl. Now, let's shift our focus to Cold Lake. Cold Lake had a very positive operating performance in 2021, and I'm pleased to report that this strong performance has continued into 2022. The quarter's production averaged 140,000 barrels per day, slightly down from the fourth quarter but consistent with the first quarter of 2021. Our continuous efforts on production optimization and reliability have been beneficial, providing a cost-efficient buffer against natural base decline. Cold Lake's strong performance has extended into the second quarter, with April month-to-date production at 148,000 barrels per day. However, we will have some minor planned turnaround activities at our Leming plant starting in late May and running through late June, which is expected to affect production by approximately 1,000 barrels per day for the year. Next, regarding Syncrude, Imperial's share of Syncrude production for the quarter averaged 77,000 barrels per day, slightly down from 79,000 barrels per day in both the fourth quarter and the first quarter of 2021. The first quarter encountered challenges due to extreme cold weather and some planned downtime for hydrotreater maintenance that extended into the second quarter, with an overall impact of about 1,000 barrels per day for the year. Notably, Syncrude achieved their best-ever first quarter bitumen production, driven by strong mining and extraction performance, as well as good utilization of the interconnecting pipelines. Our guidance of 75,000 to 80,000 barrels per day for the year accounts for the planned maintenance and a major coker turnaround in the third quarter. Before we move on to the Downstream, I want to comment on our marketing efforts regarding our unconventional assets. As you know, the bid window closed at the end of March, and interest has been high. We are currently evaluating the bids and will provide more information as it becomes available. However, no decision to sell these assets has been made yet. Turning to the Downstream, we refined an average of 399,000 barrels per day in the first quarter, which is a decrease of 17,000 barrels a day compared to the fourth quarter of 2021, but an increase of 35,000 barrels per day compared to the first quarter of 2021, reflecting strong ongoing operating performance. Our refinery utilization was 93%, continuing a trend above 90% for the third consecutive quarter, marking an 8% increase from the first quarter of 2021. This increase year-over-year showcases the recovery from post-COVID demand. We also began our turnaround at Sarnia during the quarter, which concluded in April with minimal impact on utilization, and was completed on time and within budget. This year has been a light turnaround year for the Downstream. In the first quarter, our petroleum product sales were 447,000 barrels per day, down 49,000 barrels per day compared to the fourth quarter of 2021, but up 33,000 barrels per day compared to the first quarter of 2021. While the increase from the first quarter indicates ongoing recovery from pandemic-related declines, we saw some restrictions rise early in the first quarter, leading to weaker gasoline demand compared to the fourth quarter. Industry demand trends have remained consistent with those from 2021, with gasoline and diesel demands around 90% of historical levels and jet demand improving but averaging 70% to 80%. Canadian jet demand is moving back toward normal levels as COVID restrictions ease, and our jet sales volumes continue to exceed industry averages by over 10%, largely due to competitive gains made in 2021, which have enhanced our overall market share. The positive Downstream margin environment is persisting into the second quarter, driven by several factors such as low product inventories and global export constraints. However, the market has also proven to be quite volatile, with significant fluctuations in Downstream margins. Additionally, in the first quarter, we completed the Sarnia Products Pipeline project ahead of schedule. Start-up and commissioning were finished in April, providing secure and reliable access to our largest market, Toronto, while reducing transportation costs by about $40 million annually. We also announced an expanded partnership with Loblaw's PC Optimum loyalty program, allowing customers to redeem PC Optimum points at over 2,000 Esso stations across Canada. This partnership, part of one of the largest loyalty programs in Canada, is expected to strengthen our leading market share. In Chemicals, this business generated $56 million in earnings in the first quarter, slightly down from the fourth quarter of 2021, as the record margins from last year began to ease. Nevertheless, these margins remain solid, and we anticipate another strong year from our Chemical business. To conclude, I would characterize the first quarter as very strong, despite some operational challenges that I believe we have successfully moved past. Looking ahead, our operational focus should enable us to capitalize on the strong commodity price environment we're currently experiencing. Our $2.5 billion substantial issuer bid reinforces our commitment to enhancing shareholder value and ongoing shareholder returns. For the remainder of 2022, our priorities remain unchanged. We aim to optimize our existing assets and deliver superior shareholder value through improved reliability and performance, making the most of the current market conditions. Coupled with that is our continuous focus on sustainability as we advance our plans for renewable diesel at our Strathcona refinery and various other greenhouse gas reduction projects such as Grand Rapids Phase I and our Leming redevelopment. These initiatives are crucial not only for decreasing emissions but also for fostering economic growth. We will maintain disciplined spending regarding both operating and capital expenses while ensuring we return excess cash to shareholders. Thank you again for your continued interest and support in our Company.

Okay. We're going to now go to the Q&A session of the morning. I'd just like to remind folks please if you could limit yourself to one question plus a follow-up. That will ensure we can get as many questions as possible in. So with that, Kevin, I'll turn it over to you to queue up the first question please.

Our first question comes from Manav Gupta with Credit Suisse.

Good morning. My question is about your unique refining system, which spans the entire U.S. spectrum. You're connected to the New York Harbor cracks and the Chicago cracks, and even to the Pacific Northwest, where all these cracks are performing strongly right now. I would like to understand how we should consider your refining earnings potential in relation to this leverage across different cracking margins in the United States. Thank you.

Yes. Thank you for your question, Manav. As you pointed out we do have a highly integrated refining system and logistics network, which allows us to capitalize on margin and market opportunities both Canadian and US. That is leading to some very strong earnings results in the Downstream currently. And of course, as I just mentioned we're fully capitalizing on that by strong reliability, strong utilization as well as a continued discipline on operating costs, which I'm quite proud of what we've achieved there. As you think about modeling obviously still a lot of uncertainty and volatility as we look to the rest of the year. But I would say what we're seeing currently in April, we anticipate continued strength certainly through the second quarter. And I think we're optimistic about the rest of the year, but there are a lot of uncertain events that are impacting margins globally and translating into the US market low inventory levels, limits on product imports and exports and all that is creating this volatility. So uncertain how that will play out over many, many months, but we're quite optimistic certainly as we look to the second quarter.

Great. Then we think just on our opinion that you will most likely report a very strong maybe record refining earnings in 2022. And I'll leave it there. Thank you so much.

Thank you, Manav.

Our next question comes from Neil Mehta with Goldman Sachs.

Thanks for the information. My first question is about your dividend strategy in relation to buybacks. It seems clear that you plan to be aggressive with buybacks in the coming weeks, which is encouraging. However, how do you view the prioritization of dividends compared to buybacks moving forward?

You want to take that one Dan?

Yes, Neil. A reliable and growing dividend is the foundation of our cash return strategy, and we are committed to it. We have had a consistent dividend for over a century, increasing it every year for more than 25 years, with significant increases recently. Besides the dividend, we return surplus cash through other methods such as buybacks, NCIB, SIB, or possibly a special dividend. Our philosophy remains unchanged: a reliable and growing base dividend with additional returns as circumstances allow. We will adapt how we execute this based on market conditions, but our commitment to this approach is firm.

Very clear. And then just can you talk about the Kearl setup from here. Production was lower than we anticipated during the quarter at Kearl. But can you talk about how the asset has been operating more recently in the past for the rest of the year and your confidence around meeting your production guidance?

Yes. Thanks for the question Neil. And you're exactly right. We had some challenges in the first quarter and did not deliver up to expectations on volumes. A lot of that quite attributable to extreme cold weather conditions that we experienced. Of course we are accustomed to cold weather in Alberta, there's no doubt about that. But this winter was particularly extreme and it came at a time that we're continuing to really challenge the asset to maximize volume performance. And unfortunately with the cold weather it impacted our operations to extract ore from the mine, to handle it in the crushers, and ultimately, to process it. We experienced some unfortunate plugging and some equipment some unusual wear that was attributable to the extreme cold weather in our crusher teeth. And then just some other kind of maintenance issues around some of our equipment again that we've had to respond to in a very structured way and in a way that allows us to learn from our experiences in this extreme cold weather. And so as we look to the future, I'm quite confident in our ability to achieve continued higher levels of production at Kearl. I'm confident in our longer-term path of the 280,000 barrels a day. In the month of April, so far, which is coming to a close, we're returning to normal. We've achieved 250,000 barrels a day month-to-date. So, essentially, back on track. As I reflect on the situation again some unfortunate challenges, but we've learned extensively from that. As you heard over the last year, we set production records in nine of 12 months last year. And so we are continuing to challenge ourselves, challenge the asset, continue to test where are the operational limits. And so through some of these challenges, we have gained further insights and knowledge as to what will allow us to further improve our equipment designs, our maintenance procedures, and ensure that they are robust and resilient over the full range of operating conditions that we anticipate over the course of the year. So, we're very much encouraged by what we've learned and now we're applying all those learnings as we go forward including this upcoming turnaround. We're going to implement some changes that we think will make a material difference for the future. And again we're quite confident. So thanks for that question. You can imagine we spent a lot of time on that over the first quarter.

Thank you, Brad.

Our next question comes from Greg Pardy with RBC Capital.

Thank you, good morning. I appreciate the overview as usual. Dan, could you please remind me about the cash taxes for this year? I didn’t fully catch what you mentioned in your opening remarks.

We paid approximately $200 million in actual cash taxes during the first quarter of this year. Additionally, we expect to pay around another $200 million in cash tax installments for the rest of the year. Therefore, our total expectation for the year, including the first quarter, is about $400 million in actual cash. As I've mentioned before, and as we've discussed in previous calls, we are transitioning from several years of relatively low cash tax payments due to tax loss carryforwards and deferrals. This year is a transition year, and at current prices, we anticipate being fully taxable in 2023. Throughout the year, at these price levels, we will accumulate a significant tax liability that will be due in the first quarter. That summarizes the situation.

Okay. Thanks for that. It's kind of a high-class problem. And then...

True, but yes. We'll do our best to optimize, but yes.

Could you explain how you determined the size of the $2.5 billion for the share buyback? Also, how does this amount relate to the normal course issuer bid, which you might renew in June? Additionally, following the completion of the share buyback, can we anticipate a significant dividend increase along with possibly refreshing the normal course issuer bid?

We carefully evaluated our cash balances and outlook and felt confident with the $2.5 billion allocation. We also have various options available, such as renewing the NCIB to buy back 5% of shares, and we can decide to accelerate that process if necessary. Additionally, we have other ways to distribute cash, including share buybacks and special dividends. We're committed to returning surplus cash rather than accumulating large cash reserves. We'll continue to return cash, but the methods will depend on the circumstances at the time. Regarding our dividend, our focus is on consistency and growth. We aim to avoid fluctuations in dividends and strive to maintain a steadily rising dividend. Each quarter, we'll reassess our dividend strategy while staying committed to reliable growth.

Thanks so much.

Our next question comes from Doug Leggate with Bank of America.

Hello. This is David Fernandez in for Doug. Thank you for taking these questions. My first one is about the SIB. It's clearly a significant amount, larger than we initially expected, which gives you more options moving forward. How do you plan to manage the pace of executing that while also considering the renewal of the NCIB?

Well, may I'll just grab that. We feel pretty good. I mean the $2.5 billion we'll put out the detailed terms here the coming days after the kind of earnings gets seasoned into the market. But our intention is to execute that here in the second quarter fully. And so, I mean that's really that. And then going forward, we'll see where cash balances go. Obviously, we had the NCIB, and we have the other menu of tools, as I said including additional SIBs or special dividends or things like that. So, I don't know if that answers your question.

No. I'm going to add one more thing. In terms of the quantum, we currently have $3.1 billion in cash on the balance sheet at the end of the quarter. Therefore, the $2.5 billion is clearly affordable. At current prices, we would expect our operations to continue to generate significant cash.

Got it. Got it. And that makes sense. And if I can go back to Kearl. So, I guess, we're going to wait until post turnaround to get an update around that. Like I guess, you're implying that potentially you could still meet the full year target, which like if we run some numbers here, I mean, it would kind of imply like a second half run rate at or above 300,000 barrels per day. I mean, is there something that you can point to perhaps that gives you conviction that maybe that's still achievable, or are my numbers off?

No, we believe it is still possible to meet the full year guidance. As I mentioned earlier, the Kearl team has been consistently improving their operating performance, which enabled us last year to set production volume records in nine out of twelve months. We are dedicated to reaching a pathway to 280,000 barrels a day and potentially more. We are actively assessing all measures to enhance our performance and have a history of exceeding 300,000 barrels a day on certain days and weeks. Our goal is to sustain many days of outstanding performance. It will require an exceptional year to meet our original guidance, but until we see a few months of progress and evaluate our current track record, there’s no reason to believe it is unachievable. I look forward to providing an update at the next quarter's earnings call.

Appreciate it. Thank you. And congrats again on the SIB.

Thank you very much. We're excited.

Our next question comes from Travis Wood with National Bank Financial.

Yes. Thanks for taking my question. You alluded to some cost pressure largely volume related at Kearl, but I wanted to hear your thoughts around kind of broader inflation pressures we've heard it from a couple that have reported already this quarter. So, just broader inflationary pressures on CapEx and OpEx side. And then maybe are you seeing any of that in a positive tone into the Chemicals business?

Yes. Thanks for that question. And you're right, we are seeing some of the same inflationary pressures that others in industry and really all sectors are experiencing right now. I would characterize it year-to-date as being very moderate for us. The main place we see it is in energy costs, because we do consume a fair amount of natural gas in our operations. We are also seeing it in some of our chemical commodities and a little bit in kind of labor and other services. At this point though, I'm quite proud of our operating organizations around the country that are being very diligent about scrutinizing their costs, looking for ways to offset those inflationary pressures with other efficiencies. And to a large extent, we are achieving that at the asset level setting aside energy costs. Very difficult to offset the energy cost. But again, when we see higher energy costs on the expense side, it also translates into higher revenues for us on our production side. In terms of overall operating costs and capital costs, at this point, we're not adjusting our CapEx budget. We believe we can achieve all the plans that we laid out for the year within that $1.4 billion guidance. And so we remain committed to that.

Okay. Appreciate that color. Thank you.

Thank you.

And I'm not showing any further questions at this turn. Turn the call back over to Dave Hughes for any closing remarks.

Thank you. And I'd just like to thank everybody again for joining us this morning and your interest. If you have any further questions, please reach out to the Investor Relations team here, and we'd be happy to address them. Thank you very much.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect and have a wonderful day.