Pembina Pipeline Corp Q4 FY2023 Earnings Call

Good morning, ladies and gentlemen and welcome to the Pembina Pipeline Corporation Q4 2023 Results Conference Call. This call is being recorded on Friday, February 23, 2024. I would now like to turn the conference over to Cameron Goldade, Chief Financial Officer of Pembina Pipeline. Please go ahead.

Thank you, and good morning everyone. Welcome to Pembina's conference call and webcast to review highlights from the fourth quarter and full year of 2023. On the call today we also have Scott Burrows, President and Chief Executive Officer; along with other members of Pembina's leadership team including Jaret Sprott, Janet Loduca, Stuart Taylor, and Chris Scherman. I would like to remind you that some of the comments made today may be forward-looking in nature and are based on Pembina's current expectations, estimates, judgments, and projections. Forward-looking statements we may express or imply today are subject to risks and uncertainties which could cause actual results to differ materially from expectations. Further, some of the information provided refers to non-GAAP measures. To learn more about these forward-looking statements and non-GAAP measures, please see the company's management's discussion and analysis dated February 22, 2024, for the period ended December 31, 2023, as well as the press release Pembina issued yesterday which are available online at pembina.com. I will now turn things over to Scott to make some opening remarks.

Thanks, Cam. We're pleased to report our fourth quarter results which include quarterly earnings of $698 million and record quarterly adjusted EBITDA of just over $1 billion. We also delivered record annual adjusted EBITDA of $3.82 billion, which exceeded the high-end of the original 2023 guidance range and reflects the strength, predictability, and resilience of Pembina’s business. In 2023, we saw growing volumes across many systems supplemented by the value enhancement from another strong year from Pembina’s marketing business. The positive momentum in the Western Canadian sedimentary basin could be seen by more than a 4% year-over-year increase in second half volumes in the conventional pipeline business. In 2023, Pembina progressed significantly by sustaining and enhancing our business through various accomplishments we shared throughout the past year, including signing new contracts in the Peace Pipeline System, extending existing contracts with the Redwater Complex, reactivating the Nipisi Pipeline, and approving new projects such as the 55,000 barrel per day RFS IV expansion and the expansion of the Northeast BC Pipeline. In the fourth quarter, positive developments continued including the announcement of a $3.1 billion acquisition of Enbridge’s interest in Alliance and Aux Sable. Pembina’s business is built around integrated, difficult to replicate assets that provide an enduring competitive advantage and unequalled market access for customers. Alliance Pipeline and Aux Sable are world-class energy infrastructure assets, and increasing our existing ownership of them will further enhance our growing franchise. We continue to expect the acquisition to close in the first half of 2024, subject to the satisfaction or waiver of customary closing conditions. On the commercial front, we announced that in support of Dallas's path-to-zero project, Pembina has entered into long-term agreements to supply up to 50,000 barrels per day of ethylene and for the associated transportation on the Alberta Ethane Gathering System. The path-to-zero project is an important development for the WCSB, representing a significant increase to the current ethane market in Alberta. Given Pembina’s existing leading ethane supply and transportation business and integrated value chain, there are multiple opportunities for the company to benefit from this new development through both existing asset base and new investment opportunities. During the fourth quarter, we also closed deals on a Croatian pipeline for a total of 90,000 barrels per day and signed an incremental contract with an anchor customer for service on the Nipisi pipeline, which has now contracted for more than half the capacity on a long-term basis, with a line of sight to the asset being fully contracted by the end of 2024. We continue to progress our Phase VIII Peace Pipeline expansion and RFS IV expansion at the Redwater Complex. The capital budget for the Phase VIII project has been revised down to $430 million, which is $100 million under the original budget. Construction is expected to be completed in the first quarter of 2024 with pipeline and facility commissioning and start-up expected in the second quarter of 2024. Our experience with Phase VIII is another example of supporting Pembina’s track record of strong project execution. Additionally, Pembina's gas infrastructure has approved an expansion at the plant that will increase natural gas processing capacity by 115 million cubic feet per day, expected to be in service in the first half of 2026. This expansion is driven by strong customer demand, supported by growing production, and will be fully underpinned by long-term take or pay contracts. Finally, we provided an update on the Cedar LNG project, which has substantially completed several key project deliverables, including obtaining material regulatory approvals and advancing inter-project agreements with Coastal Gaslink and LNG Canada. We have signed a heads-up agreement with Samsung Heavy Industries and Black & Veatch, and executed a lump sum engineering, procurement and construction agreement to provide Cedar LNG with the necessary services to construct the project. While a lot has been accomplished, there remain several interconnected elements that require resolution prior to making the final investment decision, including binding commercial off-take, obtaining third-party consents, and project financing. A final investment decision is now expected in the middle of 2024. I will now turn things over to Cam to discuss financial highlights for the 2023 fourth quarter and full year.

Thanks, Scott. As Scott noted, Pembina’s record fourth quarter adjusted EBITDA of $1.03 billion represents a 12% increase over the same period in the prior year. In pipelines, factors impacting the quarter included higher volumes from the Peace Pipeline System, Drayton Valley Pipeline, and on the recently reactivated Nipisi Pipeline, along with higher tolls primarily on the Cochin Pipeline and Peace Pipeline Systems, largely related to contractual inflation adjustments. Lower contributions from the Alliance Pipeline, primarily due to lower interruptible tolls and volumes, also impacted our results. In facilities, we saw higher contributions from the PGI assets, mainly from the former energy transfer Canada plants, the highest plant, and the Dawson asset due to increased volumes and higher revenue at Vancouver Works. In marketing and new ventures, fourth quarter results reflected the net impact of higher contributions from Aux Sable, lower natural gas and crude oil marketing margins largely offset by higher NGL margins, and realized losses on commodity-related derivatives in the fourth quarter of 2023 compared to realized gains in the fourth quarter of 2022. In the corporate segment, fourth quarter results were largely consistent with the same period in the prior year. Earnings in the fourth quarter were $698 million, representing a 187% increase over the same period in the prior year. The increase in earnings in the fourth quarter was primarily due to the net impact of the impairment reversal related to the Nipisi Pipeline, the settlement provision, and associated legal fees incurred in the fourth quarter of 2022, along with higher depreciation and unrealized gains on commodity-related derivatives compared to losses in the fourth quarter of 2022, lower net finance costs, and higher income tax expense due to the recognition of a previously unrecognized deferred tax asset. Total volumes were 3.45 million barrels per day in the fourth quarter, an increase of 2% over the same period in the prior year, reflecting the net impact of the reactivation of the Nipisi Pipeline, higher volumes on the Peace and Green Valley Pipelines, higher volumes from PGI, and lower volumes at the Redwater Complex. The fourth quarter contributed to full year results that included earnings of $1.776 billion, record adjusted EBITDA of $3.824 billion, which was 2% higher than in 2022 and exceeded the high-end of the company's original guidance range. Cash flow from our operating activities was $2.635 billion, and adjusted cash flow from operating activities was $2.646 billion. Thanks to strong results, Pembina generated meaningful free cash flow, which was allocated to strengthening the balance sheet and returning capital to shareholders. In 2023, we raised the common share dividend by 2.3%, repurchased $50 million of common shares, and continued to reduce leverage below the lower end of the target range. At December 31, 2023, based on the trailing 12 months, the ratio of proportionate consolidated debt to adjusted EBITDA was 3.3x, reflective of our strong balance sheet supporting a strong investment-grade credit rating. I'll now turn things back to Scott.

Thanks, Cam. In closing, we are enthusiastic about the future, given the current momentum in the WCSB and expected continued volume growth through 2024 and beyond. Our broader outlook remains unchanged as we see the potential for mid-single digit growth driven by tangible near-term catalysts, including approximately $2.8 billion or 2.8 billion cubic feet per day of new natural gas export capacity from the new West Coast LNG projects, 590,000 barrels per day of new crude oil export capacity from the expected completion of the Trans Mountain Pipeline Expansion, and potential new developments in the Alberta petrochemical industry, including significant incremental ethane demand associated with the path-to-zero project. Given the scope and reach of our business, Pembina is uniquely positioned to benefit from these catalysts. Our investors have come to expect strong and consistent financial leadership from us, demonstrated by a secure and growing dividend, an unwavering commitment to our financial guardrails, and a low-risk, primarily fee-based business with high take-or-pay contributions and a strong balance sheet. You can expect us to continue to execute our strategy with the same financial discipline that has made us successful to date. In closing, I believe the next five years will be an exciting time in the Canadian energy industry, with exceptional resources, greater access to global markets, and leading environmental and social performance standards. Canada's energy industry has an opportunity for greatness. I'm extremely proud of what Pembina and the rest of our industry do to ensure responsibly produced energy is available to meet growing global demand. Thank you for joining us this morning. Operator, please go ahead and open up the line for questions.

Thank you. And ladies and gentlemen, we will now begin the question-and-answer session. Your first question comes from the line of Jeremy Tonet from JPMorgan. Your line is open.

Hi, good morning. Just wanted to go into the Dow announcement a little bit more regarding the ethane supply agreement. I am wondering if you could frame up whether this all represents incremental ethane extraction new to the system or if there is any redirection involved. Also, how much of this would you characterize as brownfield versus greenfield investment? Just trying to get a sense of what the project economics could look like.

Good morning, Jaret here. Yes, great question. We are super excited to announce our contribution to Dow's net-zero cracker here in Alberta. With respect to our supply, it is going to be a material increase to Pembina’s overall supply. It will require us to spend incremental capital regarding getting that supply. You know, we've spoken previously about RFS III, which was originally designed as a C3 plus fractionator but has the optionality for us to put DS on it; so that would be a brownfield expansion. There are other opportunities at Empress and through PGI and/or Pembina wholly-owned extraction assets. We also see massive positives with respect to utilization across our asset base. With 50,000 barrels of ethane, obviously a bunch of C3 plus comes along with that. So it is going to be a mix of brownfield and greenfield opportunities for Pembina and higher utilization across the board. And then on the AX Pipeline, Pembina has announced that we're going to be 50,000 barrels. We fully expect that we're not the only contributor to Dow's supply portfolio; we just don't know where the other portions of that supply portfolio are coming from. So once we understand where that's coming from, we'll be in a better position to update everyone on AX expansions.

Got it. That's very helpful there. And is there any way to frame what the potential capital deployment sizing or timeframe for this could be?

Yes, Jeremy. It’s Scott here. We've been progressing multiple options as Jaret pointed out, and we're working through the engineering and the economics of all of those. I would say, probably by mid-year we'll be in a better position to update the market on which projects we predict will go forward. But suffice to say, there will be no material CapEx in 2024.

Got it, understood. Just one last one, if I could. On the Nipisi pipe and reactivation, can you speak a bit more on the market drivers and commercial momentum here? Is there potential to fully fill it up? What type of timeframe could that materialize over, and what are the drivers here?

I'll take that again, Jeremy. The drivers are the Clearwater formation, where there is a lot of activity in that neighborhood. We expect the pipeline to be fully contracted by the end of 2024. We reactivated it last year, and we're seeing very strong physical utilization today. We've signed up incremental contracts, which I believe we announced at the end of last year, and yes, we have line of sight to having it 100% contracted by year-end.

Thank you. And your next question comes from the line of Rob Hope from Scotiabank. Your line is open.

Good morning, everyone. I want to stick on the Dow announcement in the West Group. When you look at the options, do you expect that the incremental ethane supply sources will all be from Western Canada, or could you be pushing some incremental barrels from Vantage? Just want to get a sense of whether or not you're expecting this all to be Western Canada or some of the Bakken?

Yes, Rob. This ethane is going to be supplied from a mix of our existing portfolio, as well as new. The new ethane will come from some of the various projects that we're currently evaluating. There is definitely an option to move incremental barrels on Vantage out of the Bakken, so that is a very real possibility.

Alright, appreciate that. Moving on to the volume outlook for 2024; there are a number of moving parts, including relatively strong economy pricing offset by weak Echo pricing. When you're talking to your producer customers, how do you think volumes will progress throughout the year? Should we expect to see some softness in the front part, ramping up into LNG Canada in 2025?

Rob, we continue to believe in that mid-single digit growth that we talked about. But we are monitoring producer CapEx budgets closely and have ongoing discussions. It's top of mind regarding what producers are going to do throughout the year. To your point, obviously, we'd like Echo to be a little higher for our producing community, but with oil at $77, the condensate premium and Canadian dollar earning over $100 for your condensate carries the day often. Therefore, we believe our producers' economics are very robust, just given where condensate pricing is. We are certainly watching producer budgets, given the weakness in Echo pricing.

I would just add to that, Rob, on top of the liquids market of the condensate market. The NGL market has bounced around a bit, but we have seen some strength in December, January, and into February here. The ARB into the Far East markets continues to be open and supportive for that as well. So, we see that buffering the weaker gas prices.

And your next question comes from the line of Linda Ezergailis from TD Cowen. Your line is open.

Thank you. Recognizing we'll likely get an update on Cedar LNG in mid-year, can you provide some insights on how we might think about the bookends of cost estimates for the project, recognizing that a few factors have moved around including foreign exchange since you first announced the project?

Thanks, Linda. We will continue to defer being very specific about that question until we can tell the whole story around the opportunity. When we bought into that project, we announced the capital cost in the mid-US$2 billion range. The world has changed since then, and I think we all recognize that it's going to be higher than that. That said, when we look at Cedar from a global competitiveness standpoint, we see that it continues to stack up very well from a cost per ton basis against North American alternatives, reflecting both capital intensity and the West Coast advantages in terms of shipping that Cedar enjoys. We are aware of the desire for more specificity, but we'll probably leave it at that until we can tell the full story.

Okay. As a follow-up, if you can help us understand, given all of what you just shared in terms of that compelling advantage, has anything changed regarding your return expectations for the project? Would you expect similar returns even with a higher capital cost, or potentially higher given the compelling locational advantages, or did your initial returns increase or decrease?

Yes. I would say the economics of Cedar continue to reflect what we would have seen historically in terms of Greenfield type returns for projects of this sort. They are not quite at the level of our brownfield opportunities, though we have several of those too. They continue to be in the same range of mid to high single-digit returns.

Thank you. Commercially, can you speak about the potential sticking points around getting different off-take agreements? What sort of mix of take-or-pay versus fee for service or other attributes are you looking for in any off-take agreements?

Linda, it's Scott here. There are just a lot of different agreements that have to be put in place, so we're continuing to progress detailed negotiations; a lot of it is just due to time and the interdependency of so many different agreements on this project. Regarding our structure, recall that this project will be project financed; therefore, this project needs significant underpinning in order to proceed.

Thank you. And your next question comes from the line of Robert Catellier from CIBC Capital Markets. Your line is open.

Good morning, everyone. I have a follow-up on the Ethane Supply Agreement. Can you explain the exposure you have on that agreement to commodity prices and volumes?

If you think about how ethane is contracted in Western Canada, it's obviously different than in other parts of North America. Generally, the way it works for companies like us is through a fee-based structure. The way Pembina makes money is through the transportation and provision of the volumes through the rest of our asset base. As it stands today, through the conventional business, transmission business, deep cuts, gas plants, and fractionators, it's really about a tolling model being the value driver for the ethane molecule along with associated C3 plus that comes with it.

So, to the extent the markets are short or tight on the actual supply side, that pricing is ultimately borne by the counterparty?

That's correct.

Could you discuss the degree of additional costs for emerging regulations such as methane regulation and clean fuel regulation? Are you expecting any substantial change to your cost structure that won't be shared with shippers or producers?

Not at this stage, Rob. We continue to assess all existing and pending regulations, working on decarbonization of all the assets, and understanding where we can get the best emission reductions for the best dollar value. Many of the assets have cost-sharing arrangements, which protects us a little. At this stage, there is no material change in the cost structure.

Are there any significant implications for Chevron selling their assets in terms of your business development?

No, no major implications, Rob. Actually, we're excited to support Chevron through the transaction. Chevron has taken a modest approach to the development in the area, and we believe that upon divestment of those assets, the acquirer may take a more advanced or aggressive approach in resource development, which will benefit PGI and the rest of Pembina’s infrastructure.

If you look back over the last 18 months, there's been quite a bit of M&A activity in Canada on the asset side. Historically, new acquirers tend to deploy more capital than previous owners; this could be to enable their transactions or due to their belief at the time. We found recent M&A activity to actually accelerate our business, as seen in the increase in utilization across the PGI asset. While Chevron is a great counterparty, we expect potentially higher volumes in the relatively near future through acquisition.

Thank you. And your next question comes from the line of Satish from Wells Fargo. Your line is open.

Thanks. I have two more questions about the Dow agreement. The supply agreement of 50,000 barrels, as you mentioned, isn't the full ethane supply; I think it's only about half of the cracker's needs. I'm just curious who could satisfy the balance, given your position. Even if there’s another 50,000 barrels of ethane from other plants, can you still benefit by moving some of that third-party supply through your pipelines?

Yes. We don't have visibility on where the rest of the ethane is coming from and its timeline, so that’s a question for others. Depending on where that ethane comes from, we would have an opportunity to move it through our pipelines. We have the only C2 plus pipeline in operation today, with significant frac footprint, so there is potential; we just don’t know where the rest is coming from at this stage.

On this project, you mentioned producing more propane and butane from increasing the NGL cut. How do you view the end markets for this incremental supply of C3 pluses? Are you considering an LPG export dock expansion or will it need to be railed into the US?

It's Chris here. We are tracking that closely. With the ethane, we expect more propane and butane to find their way to the West Coast, so we are revisiting what we can do at our facility. We're also watching what others are doing in that space closely; we think it will spur something on the West Coast.

Thank you. And your next question comes from the line of Robert Kwan from RBC Capital Markets. Your line is open.

Good morning. Starting with the topic of the Dow agreement. You discussed the potential to DF on the front RFS III. What other capital do you see going into the system? Whether it’s compression or deep cuts out in the field? Also, regarding the agreements with Dow, does the agreement specify a return on capital, or is Pembina taking on the risk of how all this capital comes together via whatever fee you've agreed with Dow?

Rob, I have to be careful with what I say due to confidentiality. We are obligated to provide the ethane in a supply arrangement, which introduces a capital cost element, but it is a supply contract. A significant portion will come from existing assets or require a light touch on existing assets. For the new supply, we do have a mix of existing assets, light brownfield, and some incremental greenfield investments. We are assessing currently how to achieve the most ethane for the least cost.

If the market is short, and there’s a need to attract ethane supply at a higher price, can you clarify the obligation to supply?

Sure, Rob. The cost associated with bringing ethane supply is a pass-through to the producer supplying the ethane, and we have the obligation to supply; there is a fixed price arrangement.

One last question regarding Cedar. You outlined several factors to work through. Can you comment on costs and how you're managing risks on potential overruns? Specifically, you've discussed fixed-price EPCs; how do you plan on protecting against material overruns?

Rob, I'll start there. Part of the timing around this project is ensuring we have a very robust EPC contract, which is lump sum turnkey. This is being built in Korea, in Samsung's shipyard under a controlled environment, with LNG modules placed on top of it. It’s all under a lump sum turnkey arrangement, which covers the majority of the cost. Pembina is left with risk mainly on pipeline and transmission lines. Given our track record, the market should have confidence in our capability to deliver.

Can you comment on the status of the Alliance and Aux Sable deal? You’ve got HSR, but where are you on the Canadian Competition Bureau approval?

Yes, Rob. Timing-wise, we reiterated our timeframe for closing in the first half of 2024. We have confirmed the waiting period expiry on HSR and Transport Canada. As for the Competition Bureau process, we don’t have any further information at this point to refine that view. Things are progressing as expected, but we don't have visibility to narrow that date.

Thank you. And your next question comes from the line of Zack from TPH. Your line is open.

I have a question regarding the frac markets; it seems like many of those facilities are running close to full. Do you have any incremental room to capture spot rates as they rise? Are frac constraints becoming more of a concern?

Yes, good morning. The answer is yes; it is becoming a concern for our customers. Unfortunately, we are fully contracted for the most part, meaning we don't have a lot of opportunities to capture spot rates. The NGL season starts on April 1, so our teams are negotiating annual deals. Our contracts for the fractionation complex are mainly long-term in nature, typically 5 to 10 years, so we capture opportunities as we can, but it is primarily long-term.

Future frac negotiations continue to progress. RFS being the next frac in service, with RFS IV being the upcoming expansion, gives us the opportunity to progress negotiations and sign up incremental barrels expected to come online in the first half of 2026. This is the next material frac expansion we are aware of, and discussions are ongoing.

Thank you for that. One final question on Cochin; it seems like there is considerable shipper interest. Can you squeeze any more capacity out of that system with smaller capital solutions, or perhaps a bigger project?

Since acquiring Cochin in December 2019, we've increased throughput by approximately 25% to 30%. We've been meeting all customer demand today, and our availability is very high, but without a major expansion, there isn't much room left on that asset.

Thank you. And your next question comes from Patrick Kenny from National Bank Financial. Your line is open.

I wanted to ask about the Wapadi expansion; good to see the commercial support there. Can you provide an update on other GNP expansion opportunities in your portfolio, based on current customer activity levels?

I can't speak to specifics, Pat, but I mentioned a couple of quarters ago that we have line of sight to a substantial amount of capital to deploy on a gross and net basis through PGI. With the K3 co-gen expected to increase reliability and lower carbon intensity, the Wapadi expansion utilizes the acid gas transmission line that we acquired through the Energy Transfer Canada acquisition. We also have other opportunities for field-based processing and through PGI in partnership with Dow related to our incremental C2 supply agreement.

Thank you very much.

Thank you, everyone. We have reached the end of our Q&A session. I'd like to send it back to Pembina’s President and Chief Executive Officer, Scott Burrows, for closing remarks.

Thank you, everyone. Thanks to our staff listening in and to our customers; we really appreciate all the hard work, and thank you to all the investors and analysts on the call. 2023 was an exceptional year for our company, and we're pretty excited about what we can deliver in 2024. So, thank you everyone.

Thank you, Scott Burrows. This concludes today's conference call. Thank you for participating. You may now disconnect.