PetroTal Corp. (OTCQX:PTALF) Q3 2022 Earnings Conference Call November 17, 2022 10:00 AM ET
Company Participants
Jimmy Lea – Investor Relations, Celicourt Communications
Manolo Zúñiga – Chief Executive Officer
Douglas Urch – Chief Financial Officer
Conference Call Participants
Jimmy Lea
Good afternoon, ladies and gentlemen. Thank you for joining the PetroTal Q3 2022 Results Call. Your speakers today will be CEO, Manolo Zúñiga; and CFO, Douglas Urch. If you would like to ask a question, please submit it via the platform, and we will do our best to answer it in the time available.
I will now hand over to our speakers today, please take it away, Manolo and Doug.
Manolo Zúñiga
Thank you so much, Jimmy, and good day, everyone, and thank you for joining the PetroTal third quarter webcast where we will provide a brief summary of our Q3 2022 operational and financial results. If anyone wants further information on the company, please see our website for additional materials. I am Manolo Zúñiga, and I’m the President and CEO of PetroTal, and I am joined by my colleague, Doug Urch, Executive VP and CFO. We are both now in our office in Lima, taking care of all of the things to improve things for all of our shareholders. You have clicked on the link in last evening’s press release, you should hopefully have signed up to the webcast so you may see the slides on your screen. But if you are having issues seeing them, please contact petrotal@celicourt.uk, and they will be able to assist you.
Before I begin, I need to mention that there are some disclaimers towards the end of the presentation, which I would urge you to read at your own leisure. PetroTal is an onshore Peru-focused oil company and Peru’s largest crude oil producer. As shown in Slide 2, the company is listed on London’s AIM market, the Toronto Stock Exchange and the U.S. OTC, having a market cap of approximately US$460 million. We have 100% working interest in the Bretaña oil field, which we have expanded from minimal production to over 25,000 barrels of oil per day in late June 2022 and with current production reaching over 20,000 of oil per day on November 10th and 11th of this year. As river levels normalized near Manaus, Brazil and barges become available, the Bretaña field has 2021 year-end reserves, 2P reserves of 79 million barrels, and now has 13 producing wells. All of our producing wells have paid out their initial investment, with our most recent well paying out less than a month. And we have just reached a milestone of having produced a total of 10.5 million barrels of oil by the end of Q3 2022.
PetroTal’s sales oil via barges to 3 critical sales routes as seen in our 3D country map on that same Slide 3. Our first sales priority route is via the Amazon River to a major terminal at Manaus, Brazil, which currently has a capacity of up to 16,000 barrels of oil per day with a full barge fleet and normal river levels. This route currently delivers the strongest economics. Second is our route to the near Iquitos Refinery, where we sell around 1,500 barrels of oil per day. Lastly, we had a barge to pipeline route to the Port of Bayovar via the Petroperu operated Northern Peruvian Pipeline, also known as the ONP, for up to 20,000 barrels of oil per day when it reopens after maintenance work after suffering several intentional cuts in the last several months. We’re excited to communicate details of our third quarter and walk through how we are thinking about 2022 results and the upcoming 2023 year. Also note our new logo and color scheme for the company, which embodies a fresh new look and feel as we embark on our new vision to create $2 billion of shareholder value over the next three to five years.
Slide 3 summarizes key Q3 2022 highlights. From an operational perspective, we delivered our second highest quarterly production to date at just over 12,200 barrels of oil per day with sales at around the same level. During the quarter, we invested approximately $21 million, focused on drilling and completing well 13H, along with other infrastructure projects. Well 13H, which came on production in late October at around 8,000 barrels of oil per day, looks to be strong well that will underpin the company’s ability to deliver solid well results as shown during the past two years of constant drilling operations. At current production levels, the well looks to pay out in under 60 days and will be a significant free cash flow contributor to 2023. The company’s operating costs continue to decrease on a gross level, down 14% from the prior quarter to $10.1 million, were around $9 per barrel, driven by lower deal win and sales delivery point mix.
Lastly, Petroperu exported approximately 720,000 barrels of oil to an international refiner, crystallizing for PetroTal over $64 million, including VAT of true-up revenue and reducing the amount of Petroperu’s oil in the ONP to 2.4 million barrels. Currently, the company is in advanced negotiations for the receipt of these funds that must balance with the recently enacted emergency degree which detects that Petroperu newly raised capital must be allocated for the acquisition of crude and fuels to support the needs of Peruvians in its life.
From an ESG perspective, Slide 4 shows why the company is excited to be nearing completion of the second annual 2021 ESG report, which will be available towards the end of November. Some highlights include a peer-leading Scope 1 carbon footprint of 11.4 kilograms per barrel of CO2 produced from above ground field footprint of only 11 hectares, zero spills or oil discharges in 2021 and a continued focus on the community and creation of economic enhancements through a sponsorship of critical infrastructure projects in Peru, some of which are now under case study.
Slide 5 allows me to provide an update on our social trust initiative, which I am happy to report growing support from the government and extracted industries in Peru. PetroTal would like to be our firm’s willingness to finalize the signing of the agenda to the Block 95’s license contract, finalizing the 2.5% social trust initiative, as long as there is continued pace and no operational stoppages due to social protest.
Slide 6 shows how oil export operations were impacted by lower-than-usual river levels in Brazil. The levels have returned to normal in Peru, though at a slower pace in Brazil than anticipated.
Slide 7 then shows how we needed to reduce our operating guidance to reflect updated barging conditions to between 12,000 and 13,000 barrels of oil per day for the 2022 year, with Q4 of 2022 production estimated at approximately the same.
Note, that if all wells were open and without constrained conditions, we feel production level would be well in excess of 20,000 barrels of oil per day as we show a few days ago in the field. Reminding investors that restricting well performance does not damage the reservoir or impact any of the reserves.
2022 capital expenditures have been reduced from $110 million to around $100 million by deferring some infrastructure projects into 2023, thereby maximizing free cash flow prior to debt service to near $200 million in 2022.
On Slide 8, we show a subsurface map of the field, which nicely summarizes our development strategy at Bretaña, whereby we always drill proof locations, expecting to upgrade P2 and P3 locations accordingly. As you can see, we will complete the 1P Southeastern drilling campaign when well 12H is complete. In well 13H, the top of Vivian was located five meters above prognosis and could have a positive impact on oil in place, and therefore, reserve estimates in the year-end 2022 report.
Early in 2023, we will move the rig north to drill well 14H to potentially further upgrade reserves, though we may first need a water disposal well shown as the 4WD well. The 2023 drilling campaign planning is well underway, and we are excited to deliver another year of operational excellence while proactively navigating the unique commercial challenges of operating in the Loreto region.
And now, I would like to turn the meeting to my counterpart, Doug Urch, our CFO, who will provide a brief financial update.
Douglas Urch
Thanks, Manolo. I’m Doug Urch, PetroTal’s CFO, and I would like to start off highlighting a few select financial items from our recent press release and Q3 financial statements, with visual support from Slide 9.
From a balance sheet standpoint, PetroTal exited the quarter with over $93 million of total cash and $76 million net surplus position, considering other working capital amounts, including short and long-term debt. Despite constrained sales levels, the company still delivered solid financial performance in the up quarter on the following P&L line items. Net revenue of $84 million. Net operating income of $62 million, representing $55 per barrel. EBITDA of $58 million, representing $51 per barrel. Free cash flow before all debt service and changes in noncash working capital of $37 million, which equates to a 44% free cash flow margin and nearly cumulative $150 million of free cash flow year-to-date.
Net income of $2.6 million, impacted by lower sales, a noncash future tax provision and derivative losses in the quarter from unfavorable movements to Brent strip at the quarter end.
PetroTal generated a netback of over $55 per barrel on a contracted Brent price of approximately $97 per barrel, generating a 57% operating margin on 19-degree API heavy oil quality. Of note, this quarter – delivered all-in OpEx of around $9 per barrel, contributing to this metric was the avoidance of all diluent blending on our Brazilian route. No ONP barging costs and continued lower fixed lifting costs in Q3 2022.
Royalties for the quarter were $11.7 million, up $10 per barrel versus $8.1 million, up $6 per barrel as a result of commencement to record the 2.5% social trust retroactive to obligations back to the beginning of 2022.
PetroTal booked $2.6 million in net income for the quarter versus $84 million in Q2 2022. The Q3 2022 net income included a derivative loss of $33 million and a provision for future taxes of $8 million.
In summary, we reiterate our strong balance sheet, net surplus of $75 million at quarter end, an increase of over $130 million from the 2021 year-end net debt position of $57 million.
On Slide 10, cash flow – in conjunction with revised production guidance for the year due to low river levels, we are slightly adjusting our EBITDA and free cash flow guidance down from previous levels. 2022 EBITDA is now estimated to be $271 million prior to derivative impacts and $291 million after the derivative impacts.
Free cash flow before working capital and net debt service adjustments is estimated to be just shy of $200 million for the year, or almost $44 on a per barrel basis and only $15 million, 7.5% reduced from previous guidance.
Also on Slide 10 is a cash flow waterfall chart that estimates our year ending cash and early Q1 2023 debt reduction and expected return of capital strategy. Current estimates for the company could have enough funds at year-end to repay the bonds in February, with additional cash collected in Q1 2023 for appropriate cash buffer and our return of capital program.
Slide 11 attempts to convey a long-term return of capital policy worth considering from an investor standpoint. The slide summarizes various drilling intensity scenarios and attempts to point to an optimized activity level that provides – that proves out an appropriate production plateau scenario to maximize a 10 year benefit to shareholders.
I thank you for your continuous investor support. I will now turn the meeting back to Celicourt for the Q&A session.
Question-and-Answer Session
A – Jimmy Lea
Thank you, Manuel and Doug. Our first question, when is the Peru pipeline expected to be online?
Manolo Zúñiga
Well, right now, I had a recent meeting, one mail with the Chairman of Petroperu, now they’re giving guidance for some time on the first quarter of 2023. Now what they have also pressed upon us and I also met with the minister and the head of Perupetro, the state agency, is that the government now is committed to provide the needed safeguards to the pipeline, so it may start running without any more interruptions in the future. And the reason for that is the Talara Refinery is expected to start operating at the end of the year and with full production before the end of the first quarter.
Jimmy Lea
And what is the outlook, sorry, to buybacks and/or dividends?
Douglas Urch
The outlook is very good. As outlined in our latest investor presentation, we anticipate repaying the bonds in Q1 of 2023 and plan to initiate a robust policy shortly thereafter once we have the appropriate cash balances.
Jimmy Lea
Excellent work on the increase in production. However, why has management been off with near-term quarter forecasts?
Manolo Zúñiga
Well, what happened in this – in the last few months with the river levels, I spoke to the owner of the barging company that provides the barges to – trading company. And he was telling me, I’ve been in this business for 45 years, and never seen the Amazon River this low. And for that, it’s something that no one expected. And you’ve seen in the presentation how dry, and this is the Amazon River, is amazing. So that impacted all of us.
Things are going back to normal. The wet season has started also late. They mentioned that this is probably part of the effect of the La Nina effect, which is the opposite of El Nino. During El Nino, there is a lot of rain; during La Nina, there’s usually dry spells throughout the region different, parts this time looks like it happened on top of the Amazon. So that’s the main reason. Otherwise, as we mentioned in the presentation, we would have done much, much better.
Jimmy Lea
At the low end, what is the expected sold production forecast for Q1 2023?
Manolo Zúñiga
Well, right now, we are currently working through our 2023 budget. So we have not yet finalized the numbers for the Q1 2023. Once we publish our 2023 budget, we will provide that guidance.
Jimmy Lea
Is management looking to buy back further bonds in Q4 2022 and Q1 2023? And relatedly, is management looking to retire debt in 2023?
Douglas Urch
Yes, we have not been purchasing any of our bonds. So the first part of the question of Q4 repurchases, no. Our plan is to take advantage of the reduced call premium that starts in Q1 of 2023 and to make full repayment of the bonds in Q1 2023 when cash balances are appropriate. We do anticipate by mid-February that all of that will be satisfied.
Jimmy Lea
What is the $33 million derivative loss? Please, can you explain this?
Douglas Urch
The derivative loss represents the change in the mark-to-market value of oil that we expect to sell in the future, mostly in the pipeline when the pipeline reopens and it’s tied to and driven by the change in the forward price of Brent oil and when it’s expected to be sold. It is a noncash item.
Jimmy Lea
Please, could you update us on the current situation with local groups and unrest in the area?
Manolo Zúñiga
Yes, I’d be glad to do that. Recently, there were some attempts of a protest by the main indigenous group called Quechua. Fortunately, given all of the work that we do on behalf of the communities of Bretaña, where the majority of the population are very happy and excited of what we are doing, we had their support to be able to stop any challenges against us.
The main reason that the regular people are pushing and protesting is that in the end to the license contract to include the concept of a 2.5% social development fund is that they want to make sure that it refers to their right as indigenous people to be able to do that. And that’s something that the government is not going to allow given that under the constitution of Peru, the oil in the ground is owned by all Peruvians.
And so this is more of a private initiative from PetroTal, one that I strongly believe on because I do believe that the local community should benefit much, much more than in the last 40 years that more than 1 billion barrels have been produced, and they have not benefited at all. So that’s where we are. I’m optimistic that we will be able to sign this agenda. We are now working on the bylaws of the actual trust fund. And once that is complete, we will bring it to our Board for approval.
Jimmy Lea
Thank you. On shareholder returns, will you commit to returning a set percentage of free cash flow to shareholders?
Douglas Urch
Yes. We will target a percentage of free cash flow that is in line with some of our peers. We are currently finalizing our 2023 guidance and will also incorporate some level of minimum cash balance to ensure the company always has appropriate liquidity.
Jimmy Lea
Please, could you update us on the current levels of the river?
Manolo Zúñiga
Well, I don’t have the actual data with me. It’s a good question. But the feedback is that they are going back to normal. For example, the tanker that comes from outside Brazil is now starting to unload oil at Manaus, which means there’s a 280,000 boat tanker has been able now to park and is loading oil, just give you an idea that things are going back to normal as it was expected a month ago.
Jimmy Lea
Average income per barrel in Q3 was $75 compared to $97 in the average market price. Why was there this discount?
Douglas Urch
Well, majority of the sales in the quarter were through our export Brazil route, and the commercial terms of this is net of transportation. And so that covers all of the margin costs along the river. So hence, it’s deducted at that point and with revenue lowering that realized revenue. On the cost side, we should see lower OpEx and transportation expense compared to other routes then.
Jimmy Lea
And do you have any concerns that debt of Petroperu will never be cleared?
Manolo Zúñiga
No, I don’t have any concerns about that. You can see when the government injects $1.5 billion of capital in the company, and they’re very focused on making sure that the Talara Refinery works again and then that oil from the jungle will be one of the main feedstocks for that new refinery, so they can enhance their margins.
Keep in mind that there are two blocks, 192 and Block 64 that are owned by Petroperu that they are going to – if they are able to produce those, they will do much better in their margins in the refinery. So I don’t have any concerns. They will pay. They are going through this situation given that the past administration was quite corrupt. And I’m glad that the old, which administration came back and they are fixing all of this. It’s a matter of timing only, which were – as we mentioned, we’re trying to turn up with a good payment plan for both sides.
Jimmy Lea
And when will there be a quarter that is not affected by social unrest?
Manolo Zúñiga
Well, as I’ve always mentioned, things usually when there is conflict even if you do sign up this agreement, there’s always scrimmages. That happens in all conflicts around the world. And I imagine that it could happen. But once the fund is established and people start seeing the benefits by sometime in the – maybe by mid-2023, we should have that completely done.
I am proposing the idea that other blocks in the jungle of Peru also implement same trust fund. That’s why I want to make sure that this one is properly set, I always emphasize that, and therefore, bringing peace throughout, and including making sure that the pipeline can work efficiently.
Jimmy Lea
Thank you. Is interest paid on money owed by Petroperu? And is there any opportunity for them to negotiate this amount down?
Douglas Urch
Well, we’re currently in discussions with Petroperu regarding the repayment terms. So we’re not in a position to talk about that obviously at this point in time. I will point out, though, that with the main shareholders being the government of Petroperu invested $1 billion over the last few weeks as equity contribution, and provided liquidity of $500 million in the form of credit lines for them. So strong shareholder base.
Manolo Zúñiga
But there will be interest. Yes, that mention – but we cannot mention the range yet.
Jimmy Lea
And what will the change in the management team this September give to the company?
Douglas Urch
Well, there were no changes in management, the changes that perhaps you’re referring to are the two new directors joined us, Mr. Jon Harris and Mr. Luis Carranza, both esteemed directors, great to have them on our team, and Messrs Guidry and Ellson retired. So they have been great contributors along the way.
Jimmy Lea
Manolo, would you consider having your own barges built to your own specs? Or is this something that may be considered later on down the line?
Manolo Zúñiga
We have looked at that possibility. The economics don’t – are not very attractive, especially compared to something like Bretaña. And something that I would like to highlight. For example, all of the oil that is Solvay Brasil, we sold FOB Bretaña. So we have no liability whatsoever if there is any incident while the oil is being merged all the way to Brazil. So that risk of having such a long travel time and assuming that, I don’t think that’s something that we should do that. That’s not our business. We don’t know about barging. And the companies that we use, they’ve been doing this for years. They know exactly what they are doing.
And now as we have mentioned in other presentations, if we continue to increase the size of the fleet, no one continues to contract more of that. So in the future, we can ensure that we don’t have to suffer as much as we did this time around. Of course, if it reprices up, there’s nothing we can do even if you have more size of the fleet. But usually, the way it is handled in the dry season, they fill up the barges to 70%, 60%, depending of the barge, and therefore, by having more of a fleet, you can overcome that issue and maintain production. So let’s keep in mind that we did our fresh export in December of 2020. We’ve been increasing the volumes going to Brazil, and we intend to continue doing that. We’d like to have, in the future, be able to do consistently 20,000 barrels of oil per day even in the dry season.
Jimmy Lea
In the third quarter, the pipeline sales were about 7,800 barrels a day of 12,300 barrels a day total. Can you identify where the remaining 4,500 barrels a day of sales went and where the production has not been able to go into the ONP pipeline is being held?
Manolo Zúñiga
The sales allocation actually were 87% to Brazil in the quarter with the rest to Iquitos. We have not put any oil in the pipe since February when the pipeline shut down.
Jimmy Lea
What is the tax situation on oil production in Peru?
Douglas Urch
Oil production in Peru, I mean, you’ll notice that we recorded a deferred tax amount on our balance sheet this quarter. The cash tax will be paid when the company becomes profitable is at the rate of 32% of net income. We still have net operating losses to be carried forward. So tax horizon is likely going to be sometime in the latter part of 2023.
Jimmy Lea
What are the company’s thoughts around hedging for next year?
Douglas Urch
We maintain a fairly mechanical hedge policy to protect some downside. We look for opportune times to hedge, and we’ll continue to manage our policy at or around – up to 25% of forecast production.
Jimmy Lea
How should we think about the drilling program in 2023? Similar to this year or larger or smaller?
Manolo Zúñiga
We’re trying to – we’re proposing – thinking of proposing to the Board something similar. And that’s going to be our objective. We’re going to be having to put a new pad. We were running out of space in the existing pack. And then that may cause some delays. But otherwise, the intent is to continue the drilling campaign that is similar to this year and the prior year.
Jimmy Lea
With the recovery factor around 23% in the low range still for analog fields, where do you see the recovery factor capping?
Manolo Zúñiga
The concept of [indiscernible] Bretaña was supported by strong aquifer is the idea. As I have always said, we are building a factory to process fluids. So the larger the factory, the more we can increase the recovery factor and, of course, optimizing all the economics at the same time. And that’s where a lot of the planning goes when we said at the company, almost 5 years ago, I had promise to go from 12% to 20%, 24%. And now we’re hoping to go beyond that. And all of the analysis is clear to that.
Jimmy Lea
What are the average well depletion rate?
Manolo Zúñiga
I always emphasize that given that we have electro-submersible pumps in the wells, these wells produce consistently on a fluid basis is the oil cut, because the water comes in. So initially, these wells that you have seen coming very strong until the water comes in and the production start dropping. It’s sort of a symphotic case. And you have – you can see in our more detailed presentation where we provided all of that information, it drops. And the concept that we follow, and I always try to give a simple example, under a factory, which now looks like not only been for 20 wells, but could be for 30 wells.
And we can actually pour – we have pumps of 10,000 per well at 300,000. So 5% oil cut, you are producing 15,000 barrels of oil per day. And we can double the capacity to 600,000 barrels per day by 5%. If you were at 2%, you are 12,000. The concept here is just managing fluids, and it is the way it is done everyone else in the world for this strong at prefer fields with accelerated reservoir quality.
Jimmy Lea
What are the ranges of possible CapEx budgets for next year?
Manolo Zúñiga
We have mentioned before that we will expect to have something similar to this year. Some of the external issues that we have to handle usually impacts our ability to deliver fully on the proposed CapEx. And of course, we are presenting this to the Board, and they need to approve that. But it will be in the $100 million range, I believe so.
Jimmy Lea
What sort of announcements from Petroperu should we expect over the coming months that would give us indications that they’re getting in a position to start to repay PetroTal?
Douglas Urch
Well, as mentioned over the last month, some credit line – credit has been open for the company as a result of the $1.5 billion equity injection from the government. And they are prioritizing the country fuel needs at this time and from that capital, and we will continue to discuss terms at this point in time. So it’s – it was a very positive step.
Jimmy Lea
Revised guidance of 12 barrels to 13 barrels [ph] a day implies a minimum of 14,000 barrels a day production in October/November. What gives management the confidence this is achievable?
Manolo Zúñiga
We keep track of the overall of the barges. So we – based on that, we have our forecast. We keep a very detailed monthly barge schedule. And now we know when they’re going to be arriving. And based on that, that’s how we set up our production schedule. These barges come on convoys, totaling 60,000, 70,000 barrels. And when those come in, then we increase production to fill them up.
And so once we have all of this back to normal, we will be more consistent. But that won’t happen until the end of the year. That’s why we had to lower. Assuming no other external factors, we’re very confident that we can do that.
Jimmy Lea
What’s the current plan for the shaky?.
Manolo Zúñiga
Well, we continue to do a lot of analysis, we are working on the permits. Permits in Peru, unfortunately, are taking a long time. I mentioned to both the Chairman of Perupetro and the Ministry of Energy and Mines that, for example, in Block 95, we strongly believe that we can find one, two, maybe three Bretañas, I don’t want to jinx it, but the permit to get for seismic, it may take a couple of years more, and then you need to get the permit for the drilling another couple of years. It’s just crazy. They have told me that they will support us to expedite permits.
Now going back to Block 107, what we are doing is, we continue to refine the geologic model. So whenever we ideal that we bring a partner. Otherwise, we will present something to the Board, and they will be satisfied that we can assume that risk because as we have shown skaky could be quite large.
Jimmy Lea
Are there any social plans to be implemented with Petroperu in relation to the ONP?
Manolo Zúñiga
Yes. Actually, yes. I have presented a long, long later with our analysis both Perupetro and Petroperu. A good thing that the current Chairman of Perupetro, now is the Interim Chairman of Petroperu, worked together in the past at Perupetro, so now they have our vision that other blocks should also incorporate 2.5%, as well as the pipeline such a way that people will be more enticed to protect the pipeline than cut it just to get a few days world.
We started the blocks, also Block 8, for example being shutdown for 2.5 years, Block 8 used to have 3,000 workers. And those people have had a job for a long time. I’m not blaming them for [indiscernible], because I don’t that the case, but you can get a sense that we need to remedy that comprehensive plan. The 2.5%, I think, will go a long, long way. And now they are evaluating this after my meeting with the Ministry of Energy and Mines on Monday, it would have posted on Facebook he’s thanking the company and saying that we’re very encouraged with our vision on this social trust.
Jimmy Lea
What would be management strategy for managing OpEx during lower oil prices?
Manolo Zúñiga
Well, what we would do is, we’d reduce our fixed cost quantum at the field as best we can. Fuel would be cheaper by default, and royalties would be lower by default. We would also try and optimize water on some lower rate wells, which would save power and fuel at the field level.
Jimmy Lea
When will social trust fund be taken to the Board?
Manolo Zúñiga
Well, as I mentioned earlier, we have now a solid version according to us or the agenda to license contract. And we have now presented a draft of the bylaws, which are also very important, which need to be discussed at the working table. And that may take a little bit of time only when we have both and their full agreement. We bring them to the Board for consideration and approval. Of course, I keep them abreast of all of this. I’m hoping that we can do. I don’t know by year end, but in the first quarter. I knew all alone that this was going to take a long time to set up, which is why when I propose the social fund, I told the people, the local people, that we will start accumulating those funds as of the beginning of the year.
So they feel that the fund in essence is established. It just needs all of the rules. And we have actually used some of that money for some important projects given their difficult situation. They’re very happy what we are doing. So – and that also helps the people be more at ease. Otherwise they will think that we’re delaying things on purpose and we’re not. We just need to make sure that this is done properly, so it can be replicated in other places. So the impact is not only in the Puinahua district, but all through our Loreto, given that we move our oil through our Loreto.
Jimmy Lea
If there is a similar dry season next year, how do you plan to avoid a repeat this year’s barging problem?
Manolo Zúñiga
Well, as I mentioned earlier, hopefully it’s not similar, because we were dried out and the barging companies did not want to navigate because they didn’t want their barges stuck in the sand bars. And – but if it is worse than usual, but not as bad as this year. They are having a larger fleet, they will allow us to pumping safe. And that’s where we are working with our – the trading company and the barging companies that support them to ensure that we can expand the fleet much more.
And at the same time, trying to expedite the time it takes for the barges to unload into the mother tanker. And what we are doing is trying to get tanks at the port Manaus. So the barges unload into the tanks, and then when the mother tanker comes in, they can quickly unload into the mother tanker and then we can expedite the round trip of these barges. All of that will optimize the events.
Jimmy Lea
On returning a set percentage of free cash flow to shareholders, what percentage level could we expect?
Douglas Urch
Well, we will be debt free in Q1 of 2023. So we expect it will be something meaningful, it will still allow us to be protected from a working capital perspective. We will have more detailed guidance on that when we announced our 2023 budget.
Jimmy Lea
Has anyone been dredging the river while it is so low? So this doesn’t happen again in the future?
Manolo Zúñiga
No, and unfortunately not. There was a plan and there was actually a tender that the government run a couple three years ago, but then it was not implemented. The concept was to ensure that the Amazon Rivers will be able to navigate throughout and but that has not been done yet. And the reason was that the department wanted the barging companies to assume the cost of maintaining the routes open during the dry season and they complain that why would they need to assume that cost when a lot of the merchandise is going to Lima and other places, and also, and that’s why we’re hoping did not fly. I’m hoping that they will again entertain this idea and do it properly. Yes, like in the U.S., the Mississippi is maintained by the core of engineers, which is paid by all Americans.
Jimmy Lea
Royalties were higher compared to previous quarters during Q3. What was the reason for that?
Douglas Urch
Well as mentioned in the report and in our comments; in Q3 as a result of the social trust framework being formalized to the level that it’s at, we’ve now started booking the 2.5% social trust. So what you see in Q3 represents the full nine-month eligibility for the social trust now that we’re booking it on our financial statements. That’s what caused the change percentage-wise from quarter-to-quarter.
Manolo Zúñiga
And certainly just to explain, although the social price is not really a royalty because it’s going to a social trust, but in essence the equivalent of a royalty in the sense that when we proposed this, we wanted to use the same scheme that Perupetro has for the royalty in Article 8 of the license contract. That way keeping it simple, it’s something that is done by weekly and nobody will get confused, and that was our concept. So in a sense it’s like an added royalty.
Jimmy Lea
What is the transport cost per barrel for the Brazilian route?
Douglas Urch
Well, if you look at Slide 17 of our investor presentation, you’ll see a good summary of all of the costs for the three sales routes that we have. In that table, we allocate $15 per barrel as – but however, we don’t provide the full commercial terms since that oil to – that’s exported through Brazil is sold on an FOB for 10-year basis. So we do not have actual costs. They are paid by the purchaser and net it off of their revenue.
Jimmy Lea
Who were the customers of the two local refineries? And is there likely any expansion of demand there?
Manolo Zúñiga
I’m not sure about the question; who are the customers of the two. In the case of Iquitos, I think that’s what we’re talking about, our oil that is 19 API gravity, they extract some of the gasoline and the diesel, which is used locally. And as our oil – and that’s an old refinery, the one in Iquitos. So they end that with what a large percentage of residual oil, that now they’re selling to the local power company, especially given that our oil has a low sulfur, it’s only 0.5% and no heavy metals. I would call it, that is a clean oil, that’s what they’re doing in Iquitos. And I imagine that, for example, when the oil was exported to the Pacific coast of the U.S. in June, those are going to modern refineries, and they are cracking that oil by getting all type of products, which are distributed among the Pacific coast of the U.S. I hope I answered the right – the question properly.
Jimmy Lea
Since you weren’t able to produce as much as planned this year and since you still went ahead with the drilling campaign, should the company be able to produce some of that next year and spend less on drilling?
Manolo Zúñiga
That is something that our own Board always ask us about. But we need to remember that the concept that we’re pursuing here is one of building a large factory. And that large factory requires oil wells and requires water injection facilities. And from day 1, we envision doing the drilling campaign, adding facilities accordingly. So we may have this long plateau in the future with free cash flow for years to come. So stopping the drilling is like slowing down the buildup of the plant. That is when things may improve on prices, you may not be able to act as fast. So that’s always the debate we always analyze both cases and other cases to decide what is best for all of the shareholders.
Jimmy Lea
When the company proposed the social fund, PetroTal asked for a 10-year extension of the contract. What was the result of that?
Manolo Zúñiga
Given the length of the – to set up the social fund, I talked Petroperu to put that concept aside once I realize that, that will require a change in the Hydrocarbon Law. When I met with the minister on Monday, I reminded her about the importance of giving those extra 10 years. I have always proposed the idea that oil fields like the mines in Peru should be all the way to the economic limit. And she smiled at me and said, “Okay, Manolo, we’ll think about that one later.” I guess, I was mentioning to her, how long it’s taking for us to explore the other structures in Block 95 is having that extra time also will be very beneficial for us and our ability to invest.
So I continue to push that concept. But again, because it required a change in the law, I could not implement it together with the social fund that only requires a change in the license contract.
Jimmy Lea
What are the company’s thoughts on barging to Pump Station 5?
Manolo Zúñiga
Well, whoever was asking this question may have spoken to Petroperu because that’s what they’re thinking as well. We’ve been having those discussions. It will require putting – once you arrive you are about 20 kilometers away from the actual Pump Station 5, so they’re even looking at should they track the oil, should they put a small as short pipe do that. So they are taking a serious look at that and then providing the proper protection for that and loading and so on.
Jimmy Lea
What will happen to the two well commitment on Block 107 if the farm out doesn’t happen?
Manolo Zúñiga
Well, that’s a very good question. By the way, you may see in our presentation, we always talk about how much time we have remaining. We need to always remind people that the clock is stop while the contract is on force majeure. So we have still plenty of time. The contract is still on force majeure for the next year or two. So that’s very good for us. And we are continuing to do lots of work to make sure that this prospect – we will enhance the geologic chance of success so we can attract a partner. And over at least make sure that the company is strong enough, so you’ll be willing to take this risk. Again, the upside is so high that I think it will be something that we really need to look into. But ideally, we always being a partner.
Jimmy Lea
Is the company considering adding additional storage at Bretaña to optimize production levels?
Manolo Zúñiga
What we’re looking at is actually adding storage outside. As I mentioned, we’re looking at tanks in Manaus, FSO in [indiscernible]. Our footprint is very small in Bretaña, which, of course, we are next to the Pacaya Samiria National Reserve, so expanding with more tanks may be difficult. We may need to expand any way. If the field continues to grow, we may need another extra pad in the future. The one that we’re building – not building yet because we need a permit for the one, it’s going to be inside the same 11 hectares that we are using. But we may need to do that. But having these large tanks, it will force us to invade too much of the land in the Pacaya Samiria vicinity and that will be tricky.
Jimmy Lea
Manolo, Doug, thank you. There’s no further questions at this time. So I’ll hand back to you both for closing remarks.
Manolo Zúñiga
Well, I want to thank everybody. I think this is the webcast that we had the most questions, excellent questions. I’m very impressed about the one on Pump Station 5. Somebody has been paying attention to the story and excellent idea, and we are already pursuing. We’re pursuing other ideas as well that as time goes by, and we think that there are things that we can communicate, we will.
But I can assure you, as you know, the people that have followed us from the beginning. We have always tried to optimize and optimize and grow Bretaña and then try to replicate Bretaña inside Block 95. And that’s, we’re committed to do that. I think the Board is committed to do that. The whole team is committed to do that. And now that we have become the largest crude oil producer and people are paying more attention to what we do. I think the government is also paying attention to that. And even our other peers. So that’s thank you, it’s because of all your support. I appreciate all your support.
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