CALGARY, ALBERTA — (Marketwire) — 08/10/11 — All values are in Canadian dollars.
Provident Energy Ltd. (Provident) (TSX: PVE) (NYSE: PVX) today announced its 2011 second quarter interim financial and operating results, revised 2011 Adjusted EBITDA guidance and the August cash dividend of $0.045 per share.
“We are very pleased with our financial and operating results for the second quarter of 2011,” said President and Chief Executive Officer, Doug Haughey. “We experienced very good Redwater West and Empress East performance, our balance sheet remains very solid and we continue to advance our 2011 capital program focused on growth in the Montney and Marcellus natural gas plays, the Bakken oil play and the Alberta oilsands.”
Second Quarter Summary
Second quarter financial statements are reported under International Financial Reporting Standards.
(1) Adjusted EBITDA is earnings before interest, taxes, depreciation, amortization, and other non-cash items – see “Reconciliation of Non-GAAP measures” in the MD&A. Adjusted EBITDA presented above is from continuing operations and excludes the onetime buyout of financial derivative instruments and strategic review and restructuring costs in 2010.
(2) Adjusted funds flow from continuing operations excludes realized loss on buyout of financial derivative instruments and strategic review and restructuring costs in 2010.
(3) Distributable cash flow is presented as adjusted funds flow from continuing operations, net of sustaining capital
Revised 2011 Adjusted EBITDA Guidance
Given strong financial results in the first half of 2011 and current market conditions, Provident is narrowing its 2011 Adjusted EBITDA guidance range to $210 million to $250 million from the previous range of $200 million to $250 million, subject to market and operational assumptions including normal weather conditions. The revised range increases the midpoint of Provident–s guidance from $225 million to $230 million. This guidance is based, in part, on average price assumptions for July through December 2011 of U.S. WTI crude $83.00/bbl, AECO natural gas of $3.55/GJ, a Cdn/U.S. dollar exchange rate of $0.97 and a Mont Belvieu propane price at 72 percent of crude oil. This guidance also assumes that extraction premiums at Empress for 2011 will be near the high end of an updated range of between $3 and $8 per gigajoule.
August 2011 Cash Dividend
The August cash dividend of $0.045 per share is payable on September 15, 2011 and will be paid to shareholders of record on August 24, 2011. The ex-dividend date will be August 22, 2011. Provident–s 2011 annualized dividend rate is $0.54 per common share. Based on the current annualized dividend rate and the TSX closing price on August 9, 2011 of $7.59 Provident–s yield is approximately 7 percent.
For shareholders receiving their dividends in U.S. funds, the August 2011 cash dividend will be approximately US$0.045 per share based on an exchange rate of 1.0108. The actual U.S. dollar dividend will depend on the Canadian/U.S. dollar exchange rate on the payment date and will be subject to applicable withholding taxes.
2011 Second Quarter Conference Call
A conference call has been scheduled for Thursday, August 11, 2011 at 7:30 a.m. MDT (9:30 a.m. Eastern) to discuss Provident–s 2011 second quarter results. To participate, please dial 416-695-6617 or 800-396-7098 approximately 10 minutes prior to the conference call. An archived recording of the call will be available for replay until August 18, 2011 by dialing 905-694-9451 or 800-408-3053 and entering passcode 2134082. Provident will also provide a replay of the call on its website at .
Provident Energy Ltd. is a Calgary-based corporation that owns and manages a natural gas liquids midstream business. Provident–s Midstream facilities are strategically located in Western Canada and in the premium NGL markets in Eastern Canada and the U.S. Provident provides monthly cash dividends to its shareholders and trades on the Toronto Stock Exchange and the New York Stock Exchange under the symbols PVE and PVX, respectively.
This news release contains certain forward-looking statements concerning Provident, as well as other expectations, plans, goals, objectives, information or statements about future events, conditions, results of operations or performance that may constitute “forward-looking statements” or “forward-looking information” under applicable securities legislation. Such statements or information involve substantial known and unknown risks and uncertainties, certain of which are beyond Provident–s control, including the impact of general economic conditions in Canada and the United States, industry conditions, changes in laws and regulations including the adoption of new environmental laws and regulations and changes in how they are interpreted and enforced, increased competition, the lack of availability of qualified personnel or management, pipeline design and construction, fluctuations in commodity prices, foreign exchange or interest rates, stock market volatility and obtaining required approvals of regulatory authorities. Such forward-looking information is provided for the purpose of providing information about management–s current expectations and plans relating to the future. Readers are cautioned that reliance on such information may not be appropriate for other purposes, such as making investment decisions.
Such forward-looking statements or information are based on a number of assumptions which may prove to be incorrect. In addition to other assumptions identified in this news release, assumptions have been made regarding, among other things, commodity prices, operating conditions, capital and other expenditures, and project development activities.
Although Provident believes that the expectations reflected in such forward-looking statements or information are reasonable, undue reliance should not be placed on forward-looking statements because Provident can give no assurance that such expectations will prove to be correct. Forward-looking statements or information are based on current expectations, estimates and projections that involve a number of risks and uncertainties which could cause actual results to differ materially from those anticipated by Provident and described in the forward-looking statements or information.
The forward-looking statements or information contained in this news release are made as of the date hereof and Provident undertakes no obligation to update publicly or revise any forward-looking statements or information, whether as a result of new information, future events or otherwise unless so required by applicable securities laws. The forward-looking statements or information contained in this news release are expressly qualified by this cautionary statement.
Management–s Discussion & Analysis
The following analysis provides a detailed explanation of Provident–s operating results for the three and six months ended June 30, 2011 compared to the same periods in 2010 and should be read in conjunction with the accompanying interim consolidated financial statements of Provident. This analysis has been prepared using information available up to August 10, 2011.
Provident operates a midstream business in Canada and the United States and extracts, processes, markets, transports and offers storage of natural gas liquids (NGLs) within the integrated facilities at Younger in British Columbia, Redwater and Empress in Alberta, Kerrobert in Saskatchewan, Sarnia in Ontario, Superior in Wisconsin and Lynchburg in Virginia. Effective in the second quarter of 2010, Provident–s Canadian oil and natural gas production business (“Provident Upstream” or “COGP”) was accounted for as discontinued operations and comparative figures have been reclassified to conform with this presentation (see note 18 of the interim consolidated financial statements). As a result of Provident–s conversion from an income trust to a corporation, effective January 1, 2011, references to “common shares”, “shares”, “share based compensation”, “shareholders”, “performance share units”, “PSUs”, “restricted share units”, “RSUs”, “premium dividend and dividend reinvestment share (DRIP) purchase plan”, and “dividends” should be read as references to “trust units”, “units”, “unit based compensation”, “unitholders”, “performance trust units”, “PTUs”, “restricted trust units”, “RTUs”, “premium distribution, distribution reinvestment (DRIP) and optional unit purchase plan”, and “distributions”, respectively, for periods prior to January 1, 2011.
The reporting focuses on the financial and operating measurements management uses in making business decisions and evaluating performance. This analysis contains forward-looking information and statements. See “Forward- looking information” at the end of the analysis for further discussion.
The Company prepares its financial statements in accordance with Canadian generally accepted accounting principles as set out in the Handbook of the Canadian Institute of Chartered Accountants (“CICA Handbook”). In 2010, the CICA Handbook was revised to incorporate International Financial Reporting Standards (“IFRS”), and requires publicly accountable enterprises to apply such standards effective for years beginning on or after January 1, 2011. This adoption date requires the restatement, for comparative purposes, of amounts reported by Provident for the annual and quarterly periods within the year ended December 31, 2010, including the opening consolidated statement of financial position as at January 1, 2010. Provident–s first and second quarter 2011 interim consolidated financial statements reflect this change in accounting standards. For more information, see “Change in accounting policies”.
The analysis refers to certain financial and operational measures that are not defined in generally accepted accounting principles (GAAP) in Canada. These non-GAAP measures include funds flow from operations, adjusted funds flow from continuing operations, adjusted EBITDA and further adjusted EBITDA to exclude realized loss on buyout of financial derivative instruments and strategic review and restructuring costs.
Management uses funds flow from operations to analyze operating performance. Funds flow from operations is reviewed, along with debt repayments and capital programs in setting monthly dividends. Funds flow from operations as presented is not intended to represent cash flow from operations or operating profits for the period nor should it be viewed as an alternative to cash provided by operating activities, net earnings or other measures of financial performance calculated in accordance with IFRS. All references to funds flow from operations throughout this report are based on cash provided by operating activities before changes in non-cash working capital and site restoration expenditures. See “Reconciliation of non-GAAP measures”.
Management uses adjusted EBITDA to analyze the operating performance of the business. Adjusted EBITDA as presented does not have any standardized meaning prescribed by IFRS and therefore it may not be comparable with the calculation of similar measures for other entities. Adjusted EBITDA as presented is not intended to represent cash provided by operating activities, net earnings or other measures of financial performance calculated in accordance with IFRS. All references to adjusted EBITDA throughout this report are based on earnings before interest, taxes, depreciation, amortization, and other non-cash items (“adjusted EBITDA”). See “Reconciliation of non-GAAP measures”.
Significant events in 2010
The second quarter of 2010 included two significant events that impacted the comparative results related to the second quarter and year-to-date earnings, adjusted EBITDA and funds flow from operations significantly. First, Provident sold the remainder of its Upstream business unit to move forward as a pure-play infrastructure midstream business. This transaction completed the sales process of the Upstream business and the Upstream business unit is now classified as discontinued operations. Strategic review and restructuring costs associated with the continued divestment of upstream properties, the final sale of Provident–s Upstream business and the related separation of the business units were also incurred in the second quarter of 2010. See “Discontinued operations (Provident Upstream)”.
The second significant transaction was execution of a buyout of the fixed price derivative contracts that related to the Midstream business. In April, 2010, Provident completed the buyout of all fixed price crude oil and natural gas swaps associated with the Midstream business unit for a total realized cost of $199.1 million. The carrying value of the specific contracts at March 31, 2010 was a liability of $177.7 million, resulting in an offsetting unrealized gain in the second quarter of 2010. The $199.1 million buyout represents a cash cost and reduces funds flow from operations and adjusted EBITDA. The offsetting unrealized gain of $177.7 million is not reflected in Provident–s funds flow from operations or adjusted EBITDA as it is a non-cash recovery. Provident has retained certain participating crude oil and natural gas swaps and NGL throughput and inventory contracts that utilize financial derivative instruments based directly on underlying NGL products. See “Commodity price risk management program”.
“Adjusted funds flow from continuing operations” and “Adjusted EBITDA excluding buyout of financial derivative instruments and strategic review and restructuring costs”
Two additional non-GAAP measures of “Adjusted funds flow from continuing operations” and “Adjusted EBITDA excluding buyout of financial derivative instruments and strategic review and restructuring costs” have been provided and are also used in the calculation of certain ratios. The adjusted non-GAAP measures are provided as an additional measure to evaluate the performance of Provident–s pure-play Midstream infrastructure and logistics business and to provide additional information to assess future funds flow and earnings generating capability. See “Reconciliation of non-GAAP measures”.
Recent developments
Corporate conversion
On January 1, 2011, the Trust completed a conversion from an income trust structure to a corporate structure pursuant to a plan of arrangement. The conversion resulted in the reorganization of the Trust into a publicly traded, dividend-paying corporation under the name “Provident Energy Ltd.” Under the plan of arrangement, former holders of trust units of the Trust received one common share in Provident Energy Ltd. in exchange for each trust unit held in the Trust. Holders of the outstanding convertible debentures became entitled, upon conversion, to receive common shares in Provident Energy Ltd. on the same basis that they were entitled to receive trust units of the Trust prior to the corporate conversion.
This arrangement has been accounted for on a continuity of interests basis and accordingly, the consolidated financial statements reflect the financial position, results of operations and cash flows as if Provident Energy Ltd. had always carried on the business formerly carried on by the Trust. Assets, liabilities and equity balances have been carried over at the same amount as was previously recognized in the Trust.
Septimus to Younger pipeline project
On March 2, 2011, Provident announced an agreement between Provident Energy Ltd., AltaGas Ltd. (“AltaGas”), and a senior producer, to construct a 16-inch rich gas pipeline from a Montney gas plant to the AltaGas/Provident Younger deep cut natural gas processing facility in northeastern British Columbia. Under the agreement, Provident and AltaGas will each own a 30 percent interest in the project. The 25 kilometre pipeline will serve as a trunk line to support the gathering of up to 250 million cubic feet per day of natural gas from the liquids-rich Montney area. The estimated cost to complete the pipeline is approximately $30 million, of which Provident has committed to spend $9 million.
Public offering of convertible unsecured subordinated debentures
In May 2011, Provident issued $172.5 million aggregate principal amount of convertible unsecured subordinated debentures (the Debentures). The Debentures bear interest at 5.75% per annum, payable semi-annually in arrears on June 30 and December 31 each year commencing December 31, 2011 and mature on December 31, 2018.
The net proceeds from the offering were initially used to repay indebtedness under Provident–s revolving term credit facility which was then drawn to fund the redemption of all of the outstanding principal amount of Provident–s 6.5% convertible debentures maturing on August 31, 2012 and for general corporate purposes.
Redemption of outstanding 6.5% convertible unsecured subordinated debentures
On May 25, 2011, Provident redeemed all of the outstanding aggregate principal amount of the 6.5% convertible unsecured debentures maturing on August 31, 2012 at a redemption price equal to $1,000 in cash per $1,000 principal amount, plus accrued interest. The redemption resulted in Provident taking up and cancelling the remaining outstanding $94.9 million principal amount of the 6.5% debentures. Provident recognized a loss on repurchase of $2.1 million in financing charges in the consolidated statement of operations. The total redemption, including accrued interest, was funded by Provident Energy Ltd.–s existing revolving term credit facility.
Reconciliation of non-GAAP measures
Provident calculates earnings before interest, taxes, depreciation, amortization, and other non-cash items (adjusted EBITDA) and adjusted EBITDA excluding buyout of financial derivative instruments and strategic review and restructuring costs within its MD&A disclosure. These are non-GAAP measures. A reconciliation between these measures and income from continuing operations before taxes follows:
For the three and six months ended June 30, 2011, adjusted funds flow from continuing operations increased by 11 percent and 12 percent, respectively, over the same periods in 2010. The increases are attributed to a significant increase in gross operating margin partially offset by higher realized losses on financial derivative instruments and a current income tax recovery in the second quarter of 2010.
Declared dividends in the first six months of 2011 totaled $72.8 million, 82 percent of adjusted funds flow from continuing operations, net of sustaining capital spending. This compares to $95.4 million of declared distributions in the comparable period of 2010, 113 percent of adjusted funds flow from continuing operations, net of sustaining capital spending.
In addition to cash distributions, Provident also made a non-cash distribution to unitholders in the second quarter of 2010 relating to the disposition of Provident–s Upstream business. This distribution was valued at $308.7 million, or $1.16 per unit (see note 18 of the interim consolidated financial statements).
Outlook
The following outlook contains forward-looking information regarding possible events, conditions or results of operations in respect of Provident that is based on assumptions about future economic conditions and courses of action. There are a number of risks and uncertainties which could cause actual events or results to differ materially from those anticipated by Provident and described in the forward-looking information. See “Forward-looking information” in this MD&A for additional information regarding assumptions and risks in respect of Provident–s forward-looking information.
Given strong financial results during the first half of 2011 and current market conditions, Provident is narrowing its 2011 Adjusted EBITDA guidance range to $210 million to $250 million from the previous range of $200 million to $250 million, subject to market and operational assumptions including normal weather conditions. The revised range increases the midpoint of Provident–s guidance from $225 million to $230 million. This guidance is based, in part, on average price assumptions for July through December 2011 of U.S. WTI crude $83.00/bbl, AECO natural gas of $3.55/GJ, a Cdn/U.S. dollar exchange rate of $0.97 and a Mont Belvieu propane price at 72 percent of crude oil. This guidance also assumes that extraction premiums at Empress for 2011 will be near the high end of an updated range of between $3 and $8 per gigajoule.
In July 2011, Provident announced an agreement to purchase a two-thirds interest in Three Star Trucking Ltd. (“Three Star”), a Saskatchewan based oilfield hauling company serving Bakken-area crude oil producers. Three Star is a privately held enterprise based in Alida, Saskatchewan operating in Saskatchewan, Manitoba and North Dakota, providing fee-for-service hauling of crude oil and related oilfield liquids for major Bakken area producers. Three Star has a new and well maintained fleet of approximately 170 tractors and 160 trailers. In addition to building a strong presence in crude oil hauling, the transaction will also provide Provident the opportunity to further expand its NGL and diluent logistics service businesses. The transaction is valued at approximately $20 million, comprised of approximately $8 million in cash, 945,000 Provident shares and approximately $4 million of assumed bank debt and working capital. Provident will retain the option to purchase the remaining one-third interest in Three Star after three years from the closing date, anticipated on or before October 1, 2011.
Provident continues to advance its expanded 2011 capital program, comprised of $105 million of growth capital and a further $25 million of sustaining capital. During the first half of 2011, Provident deployed approximately $47 million, including $38 million allocated to growth projects and $9 million of sustaining capital. Provident will continue to focus its efforts towards the execution of its 2011 capital program for the balance of the year and expects to begin realizing incremental cash flow from these capital projects beginning in 2012.
At Corunna, Provident is nearing the completion of its new 16 spot multi-commodity rail loading and offloading terminal. The rail terminal is expected to be commissioned in the third quarter of 2011 and will provide enhanced flexibility to move NGL and related products into Corunna. For the balance of 2011, capital expenditures at Corunna will be directed toward cavern development and facility enhancements designed to enhance operating efficiency and increase connectivity to additional infrastructure in the surrounding area.
At Redwater, Provident–s cavern development program is proceeding as planned. Provident is currently developing five caverns to come into service over the next three years representing approximately 2.5 million barrels of storage capacity. Provident expects to complete washing of the first cavern by the end of 2011 and to complete the remaining four caverns in stages in 2012 through 2014. Provident–s recently completed brine pond, which was placed into service earlier this year will provide the infrastructure required to support the commissioning of these new caverns. One of these five caverns may be designated as a replacement cavern in the future, if required.
At Younger, construction of the Septimus to Younger pipeline, a 16-inch rich gas pipeline from a Montney gas plant to the AltaGas/Provident Younger deep cut natural gas processing facility in northeastern British Columbia, is also ongoing. The pipeline is being constructed under a joint venture agreement with AltaGas and a senior producer and is expected to be completed in the fourth quarter of 2011. Under the joint venture agreement, Provident and AltaGas will each own a 30 percent interest in the project.
Construction also continues to upgrade and replace an aging section of the Taylor to Boundary Lake pipeline on the Liquids Gathering System. A significant portion of the new pipeline segment was placed into service during the second quarter of 2011. Subject to final regulatory approval, the final leg of the pipeline is expected to be completed by the end of 2011.
Given increased drilling activity in the Montney area with producers targeting liquids-rich natural gas plays and our strong outlook for supply volumes at both the Younger and Redwater facilities, Provident is considering accelerating the timing and increasing the scope of its debottleneck project at Redwater. The Redwater debottleneck will allow Provident to increase operating capacity to accommodate expected future increases in facility throughput.
Provident continues to pursue new business development opportunities around all of its facilities driven by growth in the Montney and Marcellus natural gas plays, the Bakken oil play, and the Alberta oilsands. Additional details around ongoing capital projects will be provided once commercial arrangements have been finalized.
Provident Midstream operating results review
The Midstream business
Provident–s Midstream business extracts, processes, stores, transports and markets NGLs and offers these services to third party customers. In order to aid in the understanding of the business, this MD&A provides information about the associated business activities of the Midstream operation comprising Redwater West, Empress East and Commercial Services. The assets are integrated across Canada and the U.S., and are also used to generate fee-for- service income. The business is supported by an integrated supply, marketing and distribution function that contributes to the overall operating margin of the Company.
Provident–s integrated marketing and distribution arm has offices in Calgary, Alberta, Sarnia, Ontario, and Houston, Texas and operates under the brand name Kinetic. Rather than selling NGL produced by the Redwater West and Empress East facilities at the plant gate, the marketing and logistics group utilizes Provident–s integrated suite of transportation, storage and logistics assets to access markets across North America. Due to its broad marketing scope, Provident–s NGL products are priced based on multiple pricing indices. These indices generally correspond with the four major NGL trading hubs in North America which are located in Mont Belvieu, Texas, Conway, Kansas, Edmonton, Alberta, and Sarnia, Ontario. Mont Belvieu, the largest NGL trading center, serves as the reference point for NGL pricing in North America. By strategically building inventories of specification products during lower priced periods which can then be distributed into premium-priced markets across North America during periods of high seasonal demand, Provident is able to optimize the margins it earns from its extraction and fractionation operations. Provident–s marketing group also generates arbitrage trading margins by taking advantage of trading opportunities created by locational price differentials.
Market environment
Provident–s performance is closely tied to market prices for NGL and natural gas, which can vary significantly from period to period. The key reference prices impacting Midstream gross operating margins are summarized in the following table:
The NGL pricing environment in the second quarter of 2011 was significantly stronger than in the second quarter of 2010. The average second quarter 2011 WTI crude oil price was US$102.56 per barrel, representing an increase of 31 percent compared to the second quarter of 2010. The impact of higher WTI crude oil prices was partially offset by the strengthening of the Canadian dollar relative to the U.S. dollar in the second quarter of 2011 compared to the second quarter of 2010. Propane prices were also stronger than in the comparative period, tracking the increase in crude oil prices and reflecting lower North American supply resulting from above average exports and stronger demand from the petrochemical sector. The Mont Belvieu propane price averaged US$1.50 per U.S. gallon (61 percent of WTI) in the second quarter of 2011, compared to US$1.08 per U.S. gallon (58 percent of WTI) in the second quarter of 2010. Butane and condensate sales prices were also much improved in the second quarter of 2011, also reflective of higher crude oil prices and steady petrochemical and oilsands demand for these products.
The second quarter 2011 AECO natural gas price averaged $3.54 per gj compared to $3.72 per gj during the second quarter of 2010, a decrease of five percent. While low natural gas prices are generally favorable to NGL extraction and fractionation economics, a sustained period in a low priced gas environment may impact the availability and overall cost of natural gas and NGL mix supply in western Canada, as natural gas producers may elect to shut-in production or reduce drilling activities. Continued softness in natural gas prices have improved market frac spreads but have also caused increased extraction premiums paid for natural gas supply in western Canada, particularly at Empress.
The margins generated from Provident–s extraction operations at Empress, Alberta and Younger, British Columbia are determined primarily by “frac spreads”, which represent the difference between the selling prices for propane- plus and the input cost of the natural gas required to produce the respective NGL products. Frac spreads can change significantly from period to period depending on the relationship between crude oil and natural gas prices (the “frac spread ratio”), absolute commodity prices, and changes in the Canadian to U.S. dollar foreign exchange rate. Traditionally a higher frac spread ratio and higher crude oil prices will result in stronger extraction margins. Differentials between propane-plus and crude oil prices, as well as location price differentials will also impact frac spread. Natural gas extraction premiums and costs relating to transportation, fractionation, storage and marketing are not included within frac spreads, however these costs are included when determining operating margin.
Market frac spreads averaged $53.84 per barrel during the second quarter of 2011, representing a 41 percent increase from $38.24 per barrel during the second quarter of 2010. Higher frac spreads were a result of higher NGL sales prices combined with a lower AECO natural gas price. While Provident benefits directly from higher frac spreads at its Younger facility, the benefit of higher market frac spreads in the second quarter of 2011 was offset at Empress by continued high costs for natural gas supply in the form of extraction premiums. Empress extraction premiums increased approximately 50 percent when compared to the second quarter of 2010 and are primarily a result of low volumes of natural gas flowing past the Empress straddle plants and increased competition for NGLs as a result of higher frac spreads. Empress border flow decreased three percent to an average of approximately 4.4 bcf per day in the second quarter of 2011 compared to the same quarter of 2010. Lower natural gas throughput directly impacts production at the Empress facilities which in turn reduces the supply of propane-plus available for sale in Sarnia and in surrounding eastern markets. Tighter supply at Sarnia may have a positive impact on eastern sales prices relative to other major propane hubs during periods of high demand.
Provident has partially mitigated the impact of lower natural gas based NGL supply at Empress through the purchase of NGL mix supply in western Canada. In the first quarter of 2010, Provident completed the construction of a truck rack at its Provident Empress facility and began trucking in NGL mix supply on April 1, 2010. The mix is then transported to the premium-priced Sarnia market for fractionation and sale. Provident is also purchasing NGL mix supply from other Empress plant owners and in the Edmonton market. While gross operating margins benefit from the addition of NGL mix supply, per unit margins are impacted as margins earned on frac spread gas extraction are typically higher than margins earned on NGLs purchased on a mix basis.
Industry propane inventories in the United States were approximately 41.5 million barrels as at the end of the second quarter of 2011, representing a decrease of approximately 9.0 million barrels compared to the prior year quarter, and are approximately 8.8 million barrels below the five year historical average. Inventory levels are at the lower range of the five year historical average primarily due to the continued strong demand from the petrochemical sector and above average exports from the U.S. Gulf Coast to Central and South American markets. Canadian industry propane inventories were approximately 5.8 million barrels at the end of the second quarter of 2011, 0.3 million barrels lower than the end of the second quarter of 2010 and 0.6 million barrels lower than the historic five year average. Propane inventories have decreased compared to the prior year quarter primarily due to strong winter demand for propane in 2011.
Gross operating margin
Midstream gross operating margin during the second quarter of 2011 totaled $73.6 million, an increase of 51 percent compared to the same period in the prior year. The increase in operating margin is the result of a higher contribution from both Redwater West and Empress East by 88 percent and 53 percent, respectively, partially offset by a five percent decrease in operating margin from Commercial Services.
The year-to-date margin was $174.1 million in 2011 which is 26 percent higher than the year-to-date margin of $137.6 million in 2010. Year-to-date margin reflects increased contributions from both Redwater West and Empress East by 42 percent and 27 percent, respectively, partially offset by a seven percent decrease in operating margin from Commercial Services.
Redwater West
Provident purchases NGL mix from various natural gas producers and fractionates it into finished products at the Redwater fractionation facility near Edmonton, Alberta. Redwater West also includes natural gas supply volumes from the Younger NGL extraction plant located at Taylor in northeastern British Columbia. The Younger plant supplies specification NGLs to local markets as well as NGL mix supply to the Fort Saskatchewan area for fractionation and sale. The feedstock for Redwater West is largely NGL mix rather than natural gas, therefore frac spreads have a smaller impact on operating margin than in Empress East.
Also located at the Redwater facility is Provident–s industry leading rail-based condensate terminal, which serves the heavy oil industry and its need for diluent. Provident–s condensate terminal is the largest of its size in western Canada. Income generated from the condensate terminal and caverns which relates to third-party terminalling and storage is included within Commercial Services, while income relating to proprietary condensate marketing activities remains within Redwater West.
The second quarter 2011 operating margin for Redwater West was $41.9 million, an increase of 88 percent compared to $22.3 million in the second quarter of 2010. Strong second quarter 2011 results were primarily due to stronger market prices for all NGL products as well as higher frac spreads at Younger which resulted in higher per barrel product margins being realized on all NGL products. Overall, Redwater West NGL sales volumes averaged 53,727 barrels per day in the second quarter of 2011, an eight percent decrease compared to the second quarter of 2010. Lower NGL sales volumes can be largely attributed to a decrease in sales volumes for condensate in the second quarter of 2011 compared to the second quarter of 2010. Condensate sale volumes decreased compared to the prior year quarter as Provident imported less condensate via railcar from the U.S. Gulf Coast for sale into the western Canadian market. Margins on imported condensate supply tend to be lower than product supplied through western Canadian NGL mix or product extracted at Younger due to the significant transportation costs incurred on imported product. Decreases in sales volumes were more than offset by significant improvements in condensate market pricing, resulting in a higher margin in the quarter despite the decrease in sales volumes.
Ethane margins were higher in the second quarter of 2011 relative to the comparative period, benefiting from an increase in production as well as more favourable market pricing. Propane margins increased in the second quarter of 2011 compared to the prior year quarter as slightly lower sales volumes were offset by significant increases in market prices. Butane margins increased as strong refinery demand combined with increases in market prices in the second quarter of 2011.
Year-to-date gross operating margin increased to $94.6 million in 2011 from $66.4 million in 2010, an increase of 42 percent. The year-to-date increase is due to stronger unit margins on propane-plus sales which were a result of a stronger NGL pricing environment, including higher market frac spreads. Higher per unit margins were partially offset by a three percent reduction in Redwater West sales volumes which are primarily associated with reductions in condensate railcar imports from the U.S. Gulf Coast for sale in the western Canadian market.
Empress East
Provident extracts NGLs from natural gas at the Empress straddle plants and sells ethane and condensate in the western Canadian marketplace while transporting propane and butane into markets in central Canada and the eastern United States. The margin in the business is determined primarily by frac spreads. Demand for propane is seasonal and results in inventory that generally builds over the second and third quarters of the year and is sold in the fourth quarter and the first quarter of the following year.
Empress East gross operating margin was $17.2 million in the second quarter of 2011 compared to $11.2 million in the same quarter of 2010. The 53 percent increase was due to increased sales volumes associated with strong demand for propane in the second quarter of 2011 when compared to the same quarter of 2010 as well as strong refinery demand for butane in the second quarter of 2011. Overall, Empress East NGL sales volumes averaged 38,145 barrels per day, a seven percent increase compared to the second quarter of 2010. Stronger market prices for propane plus products and lower gas prices resulted in higher frac spreads which was also beneficial to gross operating margin. The positive impacts of strong demand, higher NGL sales prices and a lower AECO natural gas price were partially offset by increased extraction premiums paid to purchase natural gas in the Empress market.
Year-to-date gross operating margin of $50.0 million in 2011 represents a 27 percent increase compared to year-to- date margin of $39.4 million in 2010. The increase in year-to-date margin was primarily attributable to higher per unit margins on propane-plus sales combined with a six percent increase in sales volumes. Higher per unit margins were driven by increases in market pricing for all NGL products and was partially offset by increased extraction premiums paid to purchase natural gas in the Empress market. Sales volumes are higher than in the prior year as a result of higher demand for propane and butane in central Canada and the eastern United States in the second quarter of 2011 compared to the prior year quarter.
Commercial Services
Provident also utilizes its assets to generate income from fee-for-service contracts to provide fractionation, storage, NGL terminalling, loading and offloading services. Income from pipeline tariffs from Provident–s ownership in NGL pipelines is also included in this activity. Provident is in the process of developing five additional 500,000 barrel underground storage caverns which will be primarily contracted out on a fee-for service basis.
Commerical Services operating margin in the second quarter of 2011 was $14.6 million, representing a decrease of five percent compared to the same period in 2010. Year-to-date 2011, the commercial services margin was $29.5 million, a decrease of seven percent compared to $31.8 million in 2010. The decrease in margin was primarily associated with decreased condensate terminalling revenues partly as a result of the termination of a multi-year condensate storage and terminalling services agreement as well as the completion in mid-2010 of the Enbridge Southern Lights pipeline, which transports condensate from the United States to the Edmonton area.
Earnings before interest, taxes, depreciation, amortization, accretion, and non-cash items (“adjusted EBITDA”)
Adjusted EBITDA includes the impact of the Midstream financial derivative contract buyout, as well as strategic review and restructuring costs incurred in the second quarter of 2010, associated with the separation of the business units. Management has presented a metric excluding these items as an additional measure to evaluate Provident–s performance in the period and to assess future earnings generating capability.
Second quarter 2011 adjusted EBITDA excluding buyout of financial derivative instruments and strategic review and restructuring costs increased to $51.3 million from $34.1 million in the second quarter of 2010. Year-to-date adjusted EBITDA excluding buyout of financial derivative instruments and strategic review and restructuring costs increased to $112.5 million from $86.0 million in 2010. The increases reflect higher gross operating margins from both Redwater West and Empress East, partially offset by higher realized losses on financial derivative instruments under the commodity price risk management program. In addition, the second quarter of 2011 includes other income of $4.3 million due to payments received from third parties relating to certain contractual volume commitments at the Empress facilities.
Capital expenditures
Capital expenditures for the second quarter of 2011 totaled $22.8 million, and $46.9 million year-to-date. During 2011, $38.2 million of capital spending was primarily directed towards cavern development and terminalling infrastructure at the Provident Corunna facility near Sarnia, Ontario, cavern and brine pond development at the Redwater fractionation facility in Redwater, Alberta as well as various pipeline improvements and developments. An additional $8.7 million was directed to sustaining capital activities and office related capital including $6.0 million associated with the replacement of the Taylor to Boundary Lake Pipeline.
Midstream capital expenditures for the second quarter of 2010 totaled $3.4 million, and $10.4 million year-to-date. During 2010, $8.2 million was spent on growth projects including the construction of a truck rack at the Provident Empress plant, continued development of cavern storage at Redwater, and development activities relating to the Provident Corunna facility. In addition, $2.2 million was spent on sustaining capital requirements and office related capital.
In the second quarter of 2011, Provident recorded net income of $40.2 million compared to a net loss of $40.9 million in the comparable 2010 quarter. Net loss in the second quarter of 2010 was impacted by a net loss from discontinued operations of $51.5 million.
Net income from continuing operations for the second quarter of 2011 was $40.2 million, compared to $10.6 million in the second quarter of 2010. Higher adjusted EBITDA combined with the impact of the two identified significant events in 2010 was partially offset by higher tax expense.
The year-to-date net income was $28.2 million in 2011, compared to a net loss of $91.9 million in 2010. The net income from continuing operations of $34.6 million in 2010 was offset by a net loss from discontinued operations of $126.5 million attributed to the sale of the Upstream business in the second quarter of 2010.
The current tax expense for the three and six months ended June 30, 2011 was $0.1 million (2010 – $10.2 million recovery) and $0.1 million (2010 – $10.1 million recovery), respectively. The current tax recovery in 2010 was attributed to lower earnings subject to tax in the U.S. Midstream operations allowing the recovery of taxes paid in prior periods. The lower earnings in the second quarter of 2010 were generated primarily by the realized loss on buyout of financial derivative instruments.
For the six months ended June 30, 2011, deferred income tax expense was $45.1 million compared to a recovery of $14.8 million in the same period of 2010. As a result of Provident–s adoption of IFRS, the balance of deferred income taxes on the December 31, 2010 statement of financial position has increased by $22.3 million when compared to the previous Canadian GAAP amount (see note 5 of the interim consolidated financial statements). This IFRS difference is primarily due to the tax rate applied to temporary differences associated with SIFT entities. Under previous Canadian GAAP, Provident used the rate expected to be in effect when the timing differences reverse. However, under IFRS, Provident is required to use the highest rate applicable for undistributed earnings in these entities. Upon conversion to a corporation on January 1, 2011, these timing differences are now measured under IFRS using a corporate tax rate and, as a result, the majority of the IFRS difference at December 31, 2010 for deferred income taxes has reversed through first quarter 2011 net earnings, resulting in incremental deferred tax expense of approximately $24 million. The deferred tax recovery in 2010 was primarily driven by losses created by deductions at the incorporated subsidiary level under the previous Trust structure.
Financing charges increased in 2011 as compared to the same periods in 2010. Interest on bank debt is higher in the second quarter and year-to-date due to increased borrowing rates under Provident–s credit facilities. In 2010, following the sale of the Upstream business, Provident entered into a new credit agreement which, among other things, included an increase in borrowing rates to reflect market pricing at that time. In addition, the prior period includes an allocation of interest expense and associated financing charges to discontinued operations. Financing charges also increased in the second quarter of 2011 and year-to-date relative to the prior year comparative periods as a result of the two new series of 5.75% convertible debentures that were issued in November 2010 and May 2011, respectively and as a result of losses recognized on the repurchase of 6.5% convertible debentures in February 2011 and the redemption of the remaining 6.5% convertible debentures during May 2011.
Commodity price risk management program
Provident–s disciplined risk management program utilizes financial derivative instruments to provide protection against commodity price volatility and protect a base level of operating cash flow. Provident has entered into financial derivative contracts through March 2013 to protect the spread between the purchase cost of natural gas and the sales price of propane, butane and condensate. The program also reduces foreign exchange risk due to the exposure arising from the conversion of U.S. dollars into Canadian dollars, interest rate risk and fixes a portion of Provident–s input costs.
The commodity price derivative instruments Provident uses include put and call options, costless collars, participating swaps, and fixed price products that settle against indexed referenced pricing.
Provident–s credit policy governs the activities undertaken to mitigate non-performance risk by counterparties to financial derivative instruments. Activities undertaken include regular monitoring of counterparty exposure to approved credit limits, financial reviews of all active counterparties, utilizing International Swap Dealers Association (ISDA) agreements and obtaining financial assurances where warranted. In addition, Provident has a diversified base of available counterparties.
Management continues to actively monitor commodity price risk and continues to mitigate its impact through financial risk management activities. Subject to market conditions, Provident–s intention is to hedge approximately 50 percent of its natural gas and NGL volumes on a rolling 12 month basis. Also, subject to market conditions, Provident may add additional positions as appropriate for up to 24 months. A summary of Provident–s current financial derivative positions is available on Provident–s website at .
A summary of Provident–s risk management contracts executed during the second quarter of 2011 is contained in the following table.
Settlement of commodity contracts
The following table summarizes the impact of financial derivative contracts settled during the three and six months ended June 30, 2011 and 2010. The table excludes the impact of the Midstream derivative contract buyout of financial derivative instruments incurred in the second quarter of 2010 which is presented separately on the consolidated statement of operations.
The realized loss on financial derivative instruments for the second quarter of 2011 was $18.4 million compared to $7.8 million in the comparable 2010 quarter. The majority of the realized loss in the second quarter of 2011 was driven by NGL derivative sales contracts settling at a contracted price lower than current NGL market prices, crude oil derivative sales contracts settling at contracted crude oil prices lower than the crude oil market prices during the settlement period as well as natural gas derivative purchase contracts settling at a contracted price higher than the market natural gas prices during the settlement period. The comparable second quarter 2010 realized loss was driven mostly by natural gas derivative purchase contracts settling at a contracted price higher than the market natural gas prices during the settlement period and crude oil derivative sales contracts settling at contracted crude oil prices lower than the crude oil market prices during the settlement period.
Midstream revenues are received at various times throughout the month. Provident–s working capital position is affected by commodity price changes as well as by seasonal fluctuations that reflect changing inventory balances in the Midstream business. Typically, Provident–s inventory levels will increase in the second and third quarters when product demand is lower, and will decrease during the fourth and first quarters when product demand is at its highest. Provident relies on funds flow from operations, external lines of credit and access to equity markets to fund capital programs and acquisitions.
Substantially all of Provident–s accounts receivable are due from customers in the oil and gas, petrochemical and refining and midstream services and marketing industries and are subject to credit risk. Provident partially mitigates associated credit risk by limiting transactions with certain counterparties to limits imposed by Provident based on management–s assessment of the creditworthiness of such counterparties. In certain circumstances, Provident will require the counterparties to provide payment prior to delivery, letters of credit and/or parental guarantees. The carrying value of accounts receivable reflects management–s assessment of the associated credit risks.
Long-term debt and working capital
The Trust entered into a credit agreement (the “Credit Facility”) as of June 29, 2010, among the Trust, National Bank of Canada as administrative agent and a syndicate of Canadian chartered banks and other Canadian and foreign financial institutions (the “Lenders”). Pursuant to the Credit Facility, the Lenders have agreed to provide Provident with a credit facility of $500 million which under an accordion feature can be increased to $750 million at the option of the Trust, subject to obtaining additional commitments. The Credit Facility also provides for a separate $60 million Letter of Credit facility. As part of the corporate conversion on January 1, 2011, the Credit Facility was amended and restated to reflect the assignment of the Credit Facility from the Trust to Provident Energy Ltd. which has assumed all covenants and obligations in respect of the Credit Facility following the conversion.
The terms of the Credit Facility provide for a revolving three year period expiring on June 28, 2013 (subject to customary extension provisions) secured by all of the assets of the Company and its subsidiaries. Provident may draw on the facility by way of Canadian prime rate loans, U.S. base rate loans, banker–s acceptances, LIBOR loans, or letters of credit.
As at June 30, 2011, Provident had drawn $173.5 million or 35 percent of its Credit Facility (December 31, 2010 – $75.5 million or 15 percent). Included in the carrying value at June 30, 2011 were financing costs of $1.9 million (December 31, 2010 – $2.4 million). At June 30, 2011 the effective interest rate of the outstanding Credit Facility was 3.5 percent (December 31, 2010 – 4.1 percent). At June 30, 2011 Provident had $45.9 million in letters of credit outstanding (December 31, 2010 – $47.9 million) that guarantee Provident–s performance under certain commercial and other contracts.
The following table shows the change in Provident–s working capital position.
The ratio of long-term debt to adjusted EBITDA from continuing operations excluding buyout of financial derivative instruments and strategic review and restructuring costs for the twelve months ended June 30, 2011 was 1.9 to one compared to annual 2010 long-term debt to adjusted EBITDA from continuing operations excluding buyout of financial derivative instruments and strategic review and restructuring costs of 2.1 to one.
Share capital
On January 1, 2011, the Trust completed a conversion from an income trust structure to a corporate structure pursuant to a plan of arrangement. The conversion resulted in the reorganization of the Trust into a publicly traded, dividend-paying corporation under the name “Provident Energy Ltd.” Pursuant to the conversion, unitholders exchanged all of their trust units for common shares on a one-for-one basis (see notes 1 and 12 of the interim consolidated financial statements).
Under Provident–s Premium Dividend and Dividend Reinvestment (DRIP) purchase plan 1.1 million shares were issued or are to be issued in the second quarter of 2011 representing proceeds of $8.7 million (2010 – 0.9 million trust units for proceeds of $6.7 million).
At June 30, 2011 management and directors held less than one percent of the outstanding common shares.
Provident has funded its net capital expenditures with funds flow from operations and long-term debt. In 2010, cash provided by investing activities from discontinued operations, which includes proceeds on sale of assets from the first quarter sales of oil and natural gas assets in West Central Alberta and the investment in Emerge Oil and Gas Inc. as well as the second quarter sale of the remaining Upstream business, were applied to Provident–s revolving term credit facility.
Share based compensation
Share based compensation includes expenses or recoveries associated with Provident–s restricted and performance share plan. Share based compensation is recorded at the estimated fair value of the notional shares granted. Compensation expense associated with the plan is recognized in earnings over the vesting period of each grant. The expense or recovery associated with each period is recorded as non-cash share based compensation (a component of general and administrative expense). A portion relating to operational employees at field and plant locations is also allocated to operating expense. For the six months ended June 30, 2011, Provident recorded share based compensation expense from continuing operations of $7.9 million (2010 – $2.5 million) and made related cash payments of $6.7 million (2010 – $6.9 million). The expense was higher in 2011 as a result of an increase in the period of Provident–s share trading price upon which the compensation is based and due to recoveries in the second quarter of 2010 from staff reductions resulting in cancelled and exercised units. The cash cost was included as part of severance in strategic review and restructuring costs. At June 30, 2011, the current portion of the liability totaled $12.1 million (December 31, 2010 – $7.4 million) and the long-term portion totaled $6.0 million (December 31, 2010 – $10.4 million).
Discontinued operations (Provident Upstream)
On June 29, 2010, Provident completed a strategic transaction in which Provident combined the remaining Provident Upstream business with Midnight Oil Exploration Ltd. (“Midnight”) to form Pace Oil & Gas Ltd. pursuant to a plan of arrangement under the Business Corporations Act (Alberta). Under the arrangement, Midnight acquired all outstanding shares of Provident Energy Resources Inc., a wholly-owned subsidiary of Provident Energy Trust which held all of the producing oil and gas properties and reserves associated with Provident–s Upstream business. Effective in the second quarter of 2010, Provident–s Upstream business is accounted for as discontinued operations.
Dividends and distributions
The following table summarizes dividends and distributions paid as declared by Provident since inception:
Change in accounting policies
(i) Recent accounting pronouncements
The International Accounting Standards Board (“IASB”) issued a number of new accounting pronouncements including IFRS 9 – Financial Instruments, IFRS 10 – Consolidated Financial Statements, IFRS 11 – Joint Arrangements, IFRS 12 – Disclosure of Interests in Other Entities, and IFRS 13 – Fair Value Measurement as well as related amendments to IAS 27 – Separate Financial Statements and IAS 28 – Investments in Associates. These standards are required to be applied for accounting periods beginning on or after January 1, 2013, with earlier adoption permitted. The Company has not yet assessed the impact of these standards.
(ii) International Financial Reporting Standards (IFRS)
The Company prepares its financial statements in accordance with Canadian generally accepted accounting principles as set out in the Handbook of the Canadian Institute of Chartered Accountants (“CICA Handbook”). In 2010, the CICA Handbook was revised to incorporate International Financial Reporting Standards (“IFRS”), and requires publicly accountable enterprises to apply such standards effective for years beginning on or after January 1, 2011. This adoption date requires the restatement, for comparative purposes, of amounts reported by Provident for the annual and quarterly periods within the year ended December 31, 2010, including the opening consolidated statement of financial position as at January 1, 2010.
Provident–s first and second quarter 2011 interim consolidated financial statements reflect this change in accounting standards. Provident–s basis of preparation and adoption of IFRS is described in note 2 of the interim consolidated financial statements. Significant accounting policies and related accounting judgments, estimates, and assumptions can be found in notes 3 and 4 of the interim consolidated financial statements. The effect of the Company–s transition to IFRS, including transition elections, and reconciliations of the statements of financial position and the statements of operations between previous Canadian GAAP and IFRS is presented in note 5 to the interim consolidated financial statements.
Business risks
The energy industry is subject to risks that can affect the amount of funds flow from operations available for the payment of dividends to shareholders, and the ability to grow. These risks include but are not limited to:
The midstream industry is subject to risks that can affect the amount of cash flow available for the payment of dividends to shareholders, and the ability to grow. These risks include but are not limited to:
Readers should be aware that the risks set forth herein are not exhaustive. Readers are referred to Provident–s annual information form, which is available at , for a detailed discussion of risks affecting Provident.
Share trading activity
The following table summarizes the share trading activity of Provident for each quarter in the six months ended June 30, 2011 on both the Toronto Stock Exchange and the New York Stock Exchange:
Forward-looking information
This MD&A contains forward-looking information under applicable securities legislation. Statements which include forward-looking information relate to future events or Provident–s future performance. Such forward-looking information is provided for the purpose of providing information about management–s current expectations and plans relating to the future. Readers are cautioned that reliance on such information may not be appropriate for other purposes, such as making investment decisions. All statements other than statements of historical fact are forward- looking information. In some cases, forward-looking information can be identified by terminology such as “may”, “will”, “should”, “expect”, “plan”, “anticipate”, “believe”, “estimate”, “predict”, “potential”, “continue”, or the negative of these terms or other comparable terminology. Forward-looking information in this MD&A includes, but is not limited to, business strategy and objectives, capital expenditures, acquisition and disposition plans and the timing thereof, operating and other costs, budgeted levels of cash dividends and the performance associated with Provident–s natural gas midstream, NGL processing and marketing business. Specifically, the “Outlook” section in this MD&A may contain forward-looking information about prospective results of operations, financial position or cash flows of Provident. Forward-looking information is based on current expectations, estimates and projections that involve a number of risks and uncertainties which could cause actual events or results to differ materially from those anticipated by Provident and described in the forward-looking information. In addition, this MD&A may contain forward-looking information attributed to third party industry sources. Undue reliance should not be placed on forward-looking information, as there can be no assurance that the plans, intentions or expectations upon which they are based will occur. By its nature, forward-looking information involves numerous assumptions, known and unknown risks and uncertainties, both general and specific, that contribute to the possibility that the predictions, forecasts, projections and other forward-looking information will not occur. Forward-looking information in this MD&A includes, but is not limited to, statements with respect to:
Although Provident believes that the expectations reflected in the forward-looking information are reasonable, there can be no assurance that such expectations will prove to be correct. Provident can not guarantee future results, levels of activity, performance, or achievements. Moreover, neither Provident nor any other person assumes responsibility for the accuracy and completeness of the forward-looking information. Some of the risks and other factors, some of which are beyond Provident–s control, which could cause results to differ materially from those expressed in the forward-looking information contained in this MD&A include, but are not limited to:
Readers are cautioned that the foregoing list is not exhaustive of all possible risks and uncertainties. With respect to developing forward-looking information contained in this MD&A, Provident has made assumptions regarding, among other things:
Readers are cautioned that the foregoing list is not exhaustive of all factors and assum