Connacher reports Q2 2008 results and schedules conference call August 13, 2008, 2:30 p.m. MT
CALGARY, Aug. 12 /CNW/ - Connacher Oil and Gas Limited (TSX: CLL) today
reported record quarterly and half-yearly results to its shareholders for the
period ended June 30, 2008. Production, revenue and cash flow all rose to new
heights, due to increased conventional oil and gas volumes, new oil sands
production and sales volumes and increased product pricing, all of which
offset weak results from the refining division. Our refinery profitability is
challenged in periods when crude oil prices rise faster than refined product
prices and heavy oil differentials narrow. However, in such circumstances we
receive higher wellhead prices and netbacks for bitumen than would otherwise
occur. This underscores the importance of a balanced, integrated approach and
offers further explanation of why we were able to access the long term US debt
market as we did last year, raising the funds that were necessary to build the
Algar project, without equity dilution. We are still awaiting regulatory
approval to proceed with Algar, which we anticipate will be received shortly.Highlights of the second quarter and first half of 2008 were as follows:
- Bitumen reserves and total corporate reserves doubled
- 10 percent pre-tax present value of future net revenue stream
for proved, probable and possible reserves ("3P") approached
$3 billion (including $1 billion for 72 mmboes of possible reserves)
or $14.20 per common share outstanding, per GLJ Petroleum Consultants
("GLJ") report, effective June 30, 2008(4)
- In mid July cumulative bitumen production from Pod One exceeded
one million barrels
- Daily production at Pod One recently averaging over 8,000 bbl/d;
steam injection accelerating, anticipate soon achieving design
capacity of 10,000 bbl/d
- Record production, revenue and cash flow for second quarter and first
half 2008These Q2 2008 results will be subject to a Conference Call event at
2:30 p.m. MT August 13, 2008. To listen to or participate in the live
conference call please dial either (416) 644-3420 or (800) 595-8550. A replay
of the event will be available from August 13, 2008 at 4:30 p.m. MT until
August 20, 2008 at 11:59 p.m. MT. To listen to the replay please dial either
(416) 640-1917 or 877-289-8525 and enter the passcode 21278538 followed by the
pound sign.Summary Results
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Three months ended June 30 Six months ended June 30
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2008 2007 % Change 2008 2007 % Change
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FINANCIAL ($000 except per share amounts)
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Revenues, net
of royalties 202,016 93,266 117 302,672 159,189 90
Cash flow(1) 20,550 16,876 22 28,375 27,857 2
Per share,
basic(1) 0.10 0.09 11 0.14 0.14 -
Per share,
diluted(1) 0.10 0.08 25 0.13 0.14 (7)
Net earnings 6,683 22,228 (70) 4,850 27,212 (82)
Per share, basic
and diluted 0.03 0.11 (73) 0.02 0.14 (86)
Property and
equipment
additions 80,403 93,223 (14) 196,388 203,104 (3)
Cash on hand 232,704 25,375 817
Working capital 234,110 36,320 545
Term debt 684,705 272,559 151
Shareholders'
equity 479,477 417,793 15
Total assets 1,338,705 821,927 63
UPSTREAM
Daily production/
sales volumes
Crude oil
- bbl/d 981 731 34 988 817 21
Bitumen
- bbl/d(2) 6,123 - - 3,948 - -
Natural gas
- mcf/d 14,220 9,017 58 12,356 9,340 32
Barrels of oil
equivalent
- boe/d(3) 9,474 2,234 324 6,996 2,374 195
Product pricing
Crude oil
- $/bbl 105.28 49.79 111 92.29 49.42 87
Bitumen
- $/bbl(2) 60.80 - - 59.05 - -
Natural gas
- $/mcf 8.77 7.02 25 8.00 7.40 8
Barrels of oil
equivalent
- $/boe(3) 63.37 44.63 42 60.49 46.13 31
DOWNSTREAM
Crude charged
- bbl/d 9,329 9,248 1 9,580 9,432 2
Refinery
utilization (%) 98.2 97.3 1 100.8 99.3 2
Margins (%) (0.1) 21.4 (100) - 20.6 (100)
COMMON SHARES
OUTSTANDING (000)
Weighted average
Basic 210,658 198,360 6 210,446 198,240 6
Diluted 214,530 209,088 3 213,324 204,762 4
End of period
Issued 211,027 198,834 6
Fully diluted 250,522 236,811 6
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(1) Cash flow and cash flow per share do not have standardized meanings
prescribed by Canadian generally accepted accounting principles
("GAAP") and therefore may not be comparable to similar measures used
by other companies. Cash flow is calculated before changes in non-
cash working capital, pension funding and asset retirement
expenditures. The most comparable measure calculated in accordance
with GAAP would be net earnings. Cash flow, commonly used in the oil
and gas industry, is reconciled with net earnings on the Consolidated
Statements of Cash Flows and in the accompanying Management's
Discussion & Analysis. Management uses these non-GAAP measurements
for its own performance measures and to provide its shareholders and
investors with a measurement of the company's efficiency and its
ability to internally fund future growth expenditures.
(2) The recognition of bitumen sales from Great Divide Pod One commenced
March 1, 2008, when it was declared "commercial". Prior thereto, all
operating costs, net of revenues, were capitalized.
(3) All references to barrels of oil equivalent (boe) are calculated on
the basis of 6 mcf:1 bbl. Boes may be misleading, particularly if
used in isolation. This conversion is based on an energy equivalency
conversion method primarily applicable at the burner tip and does not
represent a value equivalency at the wellhead.
(4) Possible reserves are those additional reserves that are less certain
to be recovered than probable reserves. There is a 10 percent
probability that the quantities actually recovered will equal or
exceed the sum of proved plus probable plus possible reserves.
References herein to estimated values of future net revenue do not
represent fair market value.LETTER TO SHAREHOLDERS
Connacher experienced a productive and rewarding second quarter and first
half of 2008. Developments of consequence primarily revolved around our
activity in the oil sands at Great Divide. We declared commerciality at Pod
One effective March 1, 2008. All revenues, costs and related cash and non-cash
expenses are now included in our financial and operating results. To our
knowledge, this was the quickest commerciality declaration of any oil sands
plant and operation. It continued our legacy of doing things on time and at a
fast pace, consistent with our approach of emphasizing the efficiency of small
scale operations using an oil-field approach in the oil sands.
Our production ramp up at Pod One has proceeded favorably, although like
other operators in the oil sands space, was not without normal operational
challenges. As we have ramped up production, we have encountered what we would
categorize as minor challenges during our first six months of production and
plant operation. These have included the need for a minor turnaround to clean
material from our various vessels and the need to manage associated vapors by
debottlenecking related facilities. That being said, overall we have exceeded
the expectations of GLJ, our independent reservoir evaluator and we are moving
ahead towards our goal of 10,000 bbl/d of bitumen on a sustainable basis with
solid anticipation for later in 2008. Reservoir performance to date has been
very encouraging, with steam-to-oil ratios now in the sub-three to one range
in most of our Steam Assisted Gravity Drainage ("SAGD") well pairs. Achieving
design capacity will allow us to reduce operating costs and enjoy a more
predictable and sustainable revenue flow, impacted as we are by crude oil
prices in North American markets. A three or four day scheduled turnaround for
September 2008 will impact on calculated daily bitumen production rates for
the third quarter and full year 2008.
The high current oil price regime with narrowing differentials for heavy
oil, as generally experienced in the first half of 2008, provided us with
attractive bitumen wellhead prices and strong netbacks. Our refining business
enables us to recoup a portion of widened differentials, should they re-
emerge, so we have a less volatile and more predictable revenue and cash flow
stream as a result of our integrated strategy. This, of course, is what
enabled us to successfully access the long-term debt market in the USA last
year; without this model, only short-term, higher risk funding would have been
available to us to finance our Algar project. This would not have been a very
satisfactory solution and it also precluded Connacher from exposure to weak
equity markets and dilution through either selling new equity or disposing of
working interests in our oil sands properties, with neither of these
alternatives viewed by management as satisfactory to our shareholders.
In July, subsequent to the reporting period, we were able to report a
significant and consequential increase in the company's reserve base as at
June 30, 2008. This was as a result of the 128 core hole drilling program and
our expanded 3D coverage on our oil sands properties at Great Divide and at
Halfway Creek, Alberta ("Halfway"), which we conducted in the first quarter of
2008. Proved ("1P"), proved and probable ("2P") and proved, probable and
possible ("3P") reserves, contingent resources and prospective resources were
assigned to Connacher's properties at Great Divide and Halfway. Only minor
prospective resources were assigned to Halfway, which is in the earliest
stages of evaluation. The reserves and resource evaluation was prepared by GLJ
and was contained in a report ("GLJ Report") with an effective date of
June 30, 2008 prepared using the GLJ price deck effective July 1, 2008. The
company's total reserve volumes increased by over 100 percent in the case of
1P and 2P reserves and by about 80 percent for 3P reserves. When high estimate
contingent and prospective resources were included with 3P reserves, the 10
pre-tax percent present value of future net revenue (after deducting future
capital, operating costs and royalties but before indirect charges such as
interest or general and administrative expenditures) was forecast to exceed $4
billion, which augers well for our future if these estimates are realized.
A full description of the results of the GLJ Report was contained in a
press release dated July 23, 2008, which is posted on our website at
www.connacheroil.com. Our reserve report estimates and the positive results
quantified and described therein were also the subject of a Material Change
Report posted on SEDAR at www.sedar.com. Connacher's consistent application of
its evaluation strategy, using 3D seismic and subsequent core hole drilling
has served to expand the in-place bitumen estimates and reserves and resources
estimated to be derived therefrom. These provide the basis for the company's
longer term plans to expand its productive capacity to over 50,000 bbl/d by
the middle of the next decade as the evaluation process is applied
consistently.
At this writing, we continue to await final and formal regulatory
approval of our application to construct a second 10,000 bbl/d SAGD bitumen
recovery project at Algar or Pod Two. Our application has been with the
regulators for over one year now and we are hopeful that a decision will be
rendered shortly. We are fully financed to proceed and are ready to commence
construction. Most of the long lead items for the Algar facility have been
ordered and this will help us in controlling costs in an inflationary
environment. Total costs for Algar, including site preparation, facility
construction and drilling of the SAGD well pairs continue to be finalized.
Available cash, anticipated cash flow and funds available under its revolving
credit facilities are judged to be sufficient to fully fund the company's
capital program in 2008 and to complete Algar in 2009.
We remain hopeful we can secure approvals in time to be able to achieve
ramped up production by the middle to latter part of 2010. In relation
thereto, we continue to evaluate longer term pipeline alternatives for both
Algar and Pod One, although we are being well-served by our trucking operation
at Pod One. As volume is the determining factor in pipeline economics, once
there is distinct visibility for the completion of Algar, we will likely move
to cause a pipeline solution to be introduced for Great Divide production and
planned longer-term expansion of productivity from the area. We also intend to
proceed with the construction of a cogeneration plant to provide reliable
energy sources for our operations in an environmentally-friendly manner.
Our conventional properties have performed well for Connacher during the
first half of 2008, with healthy volume increases and attractive selling
prices for our expanded production base. We are pleased with results at
Randall, Three Hills and Gilby in Alberta and continue to thoroughly evaluate
our properties for economic expansion of their reserve and production base.
Mindful of effective capital deployment, our goal is to be self-sufficient in
our conventional program while upgrading our asset quality over time. These
properties not only provide a physical hedge for natural gas consumed at Great
Divide, but they have financed our overhead for some time as we developed our
oil sands assets. Also, we secured access to credit capacity while we were
reducing the risks associated with bitumen production in a volatile pricing
environment.
Our Great Falls refinery has operated at high levels of utilization
throughout the first half of 2008 although in an environment of rapidly rising
crude oil prices (costs to the refinery) with narrowing heavy oil
differentials and a weak economic framework, it has been difficult to make
money in this portion of our business this year. Gasoline prices have not
reflected the crude oil cost increases and have been weaker than expected for
general economic reasons and due to regional and structural pressures in our
niche market. We have been successful in broadening our market for asphalt at
record prices, but with asphalt continuing to sell for less than the input
cost of crude oil, coupled with the weakness shown in the lighter ends,
downstream profitability has disappeared. When these circumstances occur,
however, we generally can expect to receive higher prices and netbacks in the
upstream part of our business, thus smoothing out some of the volatility that
would occur, however, if the integrated business model was not being applied.
We are completing our investment in refining facilities to be in a position to
manufacture and market ultra low sulfur diesel in our markets. We are in the
early stages in our front-end engineering and design ("FEED") analysis to
determine the merits of an expansion to increase our throughput capacity by
25,000 bbl/d, from 10,000 bbl/d to 35,000 bbl/d, at our site in Great Falls,
Montana. Based on both market studies by refining and marketing experts and
preliminary design work by our engineering advisors, this appears to be the
optimum scale for an expansion. Furthermore, the timing and scale could
correspond with our anticipated expansion schedule at Great Divide, subject to
timely receipt of relevant regulatory approvals. This would keep our
integrated strategy intact and it appears, based on our internal analysis and
planning, that this expansion may be financeable from cash flow and available
funds without undue need for external financing. Our Board will visit this
issue for a decision to proceed or not later in 2008 after these more detailed
studies are completed.
Our affiliated company, Petrolifera Petroleum Limited ("Petrolifera"),
had a successful capital raise in the second quarter of 2008 through the sale
of common equity from treasury. This combined with expansion of that company's
credit capacity and structure of its indebtedness has strengthened its balance
sheet and liquidity. As a result of the financing Connacher's equity interest
in Petrolifera has been reduced to approximately 24 percent. We remain the
largest shareholder of Petrolifera and look forward with anticipation to their
drilling programs in Colombia and Peru, which upon success could materially
influence the value of the company. Connacher owns 13.1 million Petrolifera
common shares, has an option to acquire a further 200 thousand shares at a
very low price and participates under agreement in the administration of
Petrolifera.
Our Annual Meeting was held in Calgary on May 13, 2008 and was well
attended. We reviewed the company's business and affairs and answered
questions from the floor, while providing internet access via a webcast to
those shareholders unable to attend the meeting. As mentioned, we will also
hold a telephone conference call to discuss our second quarter and first half
2008 results on August 13, 2008 at 2:30 PM Calgary time (MT).
We remain confident of our future despite the bearish stock market
conditions and weak credit markets which have emerged in recent times.
Fortunately, through solid preplanning, we have the funds available to finance
our growth without consequential dilution and with our growing cash flow we
anticipate achieving our mid-term target of 50,000 bbl/d of bitumen production
by 2015. Our goal is to increase our upstream conventional production and
downstream refining capacity to support our primary objective and principal
business activity, which is the development and production of our oil sands
properties.
We thank our shareholders for their continued support and extend a
welcome to our new shareholders, both institutional and retail, who have shown
a concurrence with our approach and also recognition of our results.
Our specific financial and operating results are dealt with in greater
detail in our accompanying Management Discussion and Analysis and Financial
Statements, which form a part of this Interim Report.
Forward Looking Information
This press release, including the Letter to Shareholders and Management's
Discussion and Analysis, contains forward-looking information including, but
not limited to expectations of future production, revenues, cash flow,
profitability and capital expenditures, anticipated reductions in operating
costs as a result of optimization of certain operations, development of
additional oil sands resources (including receipt of regulatory approvals in
respect of Algar and the timeline for construction of Algar), expansion of
current conventional oil and gas and refining operations and evaluation of
future transportation alternatives and implementation thereof and anticipated
sources of funding for capital expenditures. Forward looking information is
based on management's expectations regarding future growth, results of
operation, production, future capital and other expenditures (including the
amount, nature and sources of funding thereof), plans for and results of
drilling activity, environmental matters, business prospects and
opportunities. Forward-looking information involves significant known and
unknown risks and uncertainties, which could cause actual results to differ
materially from those anticipated. These risks include, but are not limited
to: the risks associated with the oil and gas industry (e.g., operational
risks in development, exploration and production; delays or changes in plans
with respect to exploration or development projects or capital expenditures;
the uncertainty of reserve and resource estimates; the uncertainty of
estimates and projections relating to production, costs and expenses, and
health, safety and environmental risks), and the risk of commodity price and
foreign exchange rate fluctuations, and risks and uncertainties associated
with securing and maintaining the necessary regulatory approvals and financing
to proceed with the continued expansion of the Great Divide Project at Algar
and other regions and expansion of the company's refinery in Great Falls,
Montana. These risks and uncertainties are described in detail in Connacher's
Annual Information Form for the year ended December 31, 2007, which is
available at www.sedar.com. Although Connacher believes that the expectations
in such forward-looking information are reasonable, there can be no assurance
that such expectations shall prove to be correct. The forward-looking
information included in this press release are expressly qualified in their
entirety by this cautionary statement. The forward-looking information
included in this press release is made as of August 12, 2008 and the
Corporation assumes no obligation to update or revise the forward-looking
information to reflect new events or circumstances, except as required by law.
Statements relating to reserves and resources are deemed to be forward-looking
information, as they involve the implied assessment, based on certain
estimates and can be profitably produced in the future. The assumptions
relating to the reserves and resources of the Corporation, reported in the GLJ
Report, are discussed in a press release dated July 23, 2008 and a Material
Change Report dated August 1, 2008 both of which have been posted on SEDAR at
www.sedar.com.
MANAGEMENT'S DISCUSSION AND ANALYSIS
The following is dated as of August 12, 2008 and should be read in
conjunction with the unaudited consolidated financial statements of Connacher
Oil and Gas Limited ("Connacher" or the "company") for the six months ended
June 30, 2008 and 2007 as contained in this interim report and the MD&A, and
audited consolidated financial statements for the years ended December 31,
2007 and 2006 as contained in the company's 2007 annual report. All of these
consolidated financial statements have been prepared in accordance with
Canadian generally accepted accounting principles ("GAAP") and are presented
in Canadian dollars. This MD&A provides management's view of the financial
condition of the company and the results of its operations for the reporting
periods.
Additional information relating to Connacher, including Connacher's
Annual Information Form is on SEDAR at www.sedar.com.
FORWARD-LOOKING INFORMATION
This quarterly report, including the Letter to Shareholders, contains
forward-looking information including but not limited to expectations of
future production, revenues, cash flow, profitability and capital
expenditures, anticipated reductions in operating costs as a result of
optimization of certain operations, development of additional oil sands
resources (including receipt of regulatory approvals in respect of Algar and
timeline for construction of Algar), expansion of current conventional oil and
gas and refining operations, evaluation of future transportation alternatives
and implementation thereof and anticipated sources of funding for capital
expenditures. Forward looking information is based on management's
expectations regarding future growth, results of operation, production, future
capital and other expenditures (including the amount, nature and sources of
funding thereof), plans for and results of drilling activity, environmental
matters, business prospects and opportunities. Forward-looking information
involves significant known and unknown risks and uncertainties, which could
cause actual results to differ materially from those anticipated. These risks
include, but are not limited to: the risks associated with the oil and gas
industry (e.g., operational risks in development, exploration and production;
delays or changes in plans with respect to exploration or development projects
or capital expenditures; the uncertainty of reserve and resource estimates;
the uncertainty of estimates and projections relating to production, costs and
expenses, and health, safety and environmental risks), the risk of commodity
price and foreign exchange rate fluctuations, risks and uncertainties
associated with securing and maintaining the necessary regulatory approvals
and financing to proceed with the continued expansion of the Great Divide
Project and of the company's refinery in Great Falls, Montana. These and other
risks and uncertainties are described in detail in Connacher's Annual
Information Form for the year ended December 31, 2007, which is available at
www.sedar.com. Although Connacher believes that the expectations in such
forward-looking information are reasonable, there can be no assurance that
such expectations shall prove to be correct. The forward-looking information
included in this quarterly report are expressly qualified in their entirety by
this cautionary statement. The forward-looking information included in this
quarterly report is made as of August 12, 2008 and Connacher assumes no
obligation to update or revise any forward-looking information to reflect new
events or circumstances, except as required by law. Statements relating to
reserves and resources are deemed to be forward-looking information, as they
involve the implied assessment, based on certain estimates and assumptions,
that the described reserves and resources, as the case may be, exist in the
quantities predicted or estimated, and can be profitably produced in the
future. The assumptions relating to the reserves and resources of the
Corporation reported in the GLJ Report are discussed in a press release dated
July 23, 2008 and a Material Change Report dated August 1, 2008, both of which
have been posted on SEDAR at www.sedar.com.FINANCIAL AND OPERATING REVIEW
UPSTREAM NETBACKS ($000)
For the three months
ended June 30 2008 Oil Sands(1) Crude Oil Natural Gas Total
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Gross revenues(2) $68,087 $9,397 $11,349 $88,833
Diluent purchased(3) (31,272) - - (31,272)
Transportation and
marketing costs (2,934) - - (2,934)
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Production revenue 33,881 9,397 11,349 54,627
Royalties (374) (2,730) (2,246) (5,350)
Operating costs (16,281) (810) (2,546) (19,637)
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Total netback(4) $17,226 $5,857 $6,557 $29,640
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2007
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Gross revenues - $3,311 $5,759 $9,070
Royalties - (828) 171 (657)
Operating costs - (808) (1,852) (2,660)
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Total netback - $1,675 $4,078 $5,753
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For the six months
ended June 30 2008 Oil Sands(1) Crude Oil Natural Gas Total
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Gross revenues(2) $85,237 $16,603 $17,982 $119,822
Diluent purchased(3) (39,375) - - (39,375)
Transportation and
marketing costs (3,428) - - (3,428)
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Production revenue 42,434 16,603 17,982 77,019
Royalties (460) (4,545) (3,408) (8,413)
Operating costs (19,684) (1,870) (3,972) (25,526)
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Total netback(4) $22,290 $10,188 $10,602 $43,080
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Total netback as a
percentage of
production revenue (%) 53 61 59 56
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2007
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Gross revenues $7,308 $12,509 $19,817
Royalties (1,767) (1,430) (3,197)
Operating costs (1,684) (2,908) (4,592)
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Total netback $3,857 $8,171 $12,028
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Total netback as a
percentage of
production revenue (%) 53 65 61
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(1) In the first quarter of 2008, Connacher completed the conversion of a
majority of its fifteen horizontal well pairs to production status at
Great Divide Pod One and processed increasing levels of bitumen
through its facility. This provided the company with the necessary
confidence that this first oil sands project could economically
produce, process and sell bitumen on a continuous basis. Therefore,
effective March 1, 2008 Connacher declared it to be "commercial". As
a result, the company discontinued the capitalization of all pre-
operating costs, moved accumulated capital costs into the full cost
pool, commenced the depletion of these costs, and began reporting Pod
One production and operating results as part of the oil and gas
reporting segment. The above tables, therefore, do not include
operating results prior to March 1, 2008.
(2) Bitumen produced at Great Divide Pod One is mixed with purchased
diluent and sold as "dilbit". Diluent is a light hydrocarbon that
improves the marketing and transportation quality of bitumen. In the
above tables, gross Revenues represent sales of dilbit, crude oil and
natural gas.
(3) Diluent volumes purchased and blended into dilbit sales have been
deducted in calculating netbacks.
(4) Total netbacks, by product, are calculated by deducting the related
diluent, transportation, field operating costs and royalties from
revenues. Netbacks on a per-unit basis are calculated by dividing
related production revenue, costs and royalties by production
volumes. Netbacks do not have a standardized meaning prescribed by
GAAP and, therefore, may not be comparable to similar measures used
by other companies. This non-GAAP measurement is a useful and widely
used supplemental measure of the company's efficiency and its ability
to fund future growth through capital expenditures. Netbacks are
reconciled to net earnings below.
UPSTREAM SALES AND PRODUCTION VOLUMES
For the three months ended June 30
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2008 2007 % Change
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Dilbit sales(1) 8,403 bbl/d - -
Diluent purchased(1) (2,280) bbl/d - -
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Bitumen produced and sold(1) 6,123 bbl/d - -
Crude oil produced and sold 981 bbl/d 731 bbl/d 34
Natural gas produced and sold 14,220 mcf/d 9,017 mcf/d 58
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Total 9,474 boe/d 2,234 boe/d 324
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For the six months ended June 30
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Dilbit sales(1) 5,424 bbl/d - -
Diluent purchased(1) (1,476) bbl/d - -
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Bitumen produced and sold(1) 3,948 bbl/d - -
Crude oil produced and sold 988 bbl/d 817 bbl/d 21
Natural gas produced and sold 12,356 mcf/d 9,340 mcf/d 32
-------------------------------------------------------------------------
Total 6,996 boe/d 2,374 boe/d 195
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(1) Since declaring Great Divide Pod One "commercial" effective March 1,
2008. Daily averages are based on total calendar days in the period.
UPSTREAM NETBACKS PER UNIT OF PRODUCTION
For the three months
ended June 30 2008 Bitumen Crude Oil Natural Gas Total
($ per bbl) ($ per bbl) ($ per mcf) ($ per boe)
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Production revenue $60.80 $105.28 $8.77 $63.37
Royalties (0.67) (30.58) (1.74) (6.21)
Operating costs (29.22) (9.07) (1.97) (22.78)
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Upstream netback $30.91 $65.63 $5.06 $34.38
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2007
-------------------------------------------------------------------------
Production revenue - $49.79 $7.02 $44.63
Royalties - (12.45) 0.21 (3.23)
Operating costs - (12.15) (2.26) (13.08)
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Upstream netback - $25.19 $4.97 $28.32
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For the six months
ended June 30 2008
-------------------------------------------------------------------------
Production revenue $59.05 $92.29 $8.00 $60.49
Royalties (0.64) (25.28) (1.52) (6.61)
Operating costs (27.39) (10.40) (1.77) (20.05)
-------------------------------------------------------------------------
Upstream netback $31.02 $56.61 $4.71 $33.83
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2007
-------------------------------------------------------------------------
Production revenue - $49.42 $7.40 $46.13
Royalties - (11.95) (0.85) (7.44)
Operating costs - (11.39) (1.72) (10.69)
-------------------------------------------------------------------------
Upstream netback - $26.08 $4.83 $28.00
-------------------------------------------------------------------------In the second quarter of 2008, bitumen, crude oil, and natural gas
revenues were up 876 percent to $88.8 million from $9.1 million in the second
quarter of 2007. This was primarily due to increased production and sales
volumes in 2008. Dilbit sales of $68.1 million in the second quarter of 2008
contributed most of the $79.7 million increase. Substantial increases in crude
oil and natural gas production and pricing also contributed to the increase in
revenues.
Second quarter 2008 upstream revenues were also significantly higher than
first quarter 2008 upstream revenues ($88 million vs. $31 million) due to
increased natural gas sales volumes (14 mmcf/d vs. 10 mmcf/d), increased
bitumen production and sales volumes (6,123 bbl/d vs. 1,773 bbl/d) and
increased product pricing ($63.37 per boe vs. $54.46 per boe). The second
quarter benefited mostly from increased bitumen production. The company is on
its way to achieving design capacity of 10,000 bbl/d before year end.
Consequently, further increases in upstream revenues and cash flow are
anticipated in the last half of 2008, assuming product prices do not
materially retreat from current levels.
Year to date upstream revenues were $100 million higher than in the first
six months of 2007 ($119.8 million vs. $19.8 million). Contributing to this
significant revenue gain were new oil sands revenues (for the four months
since declaring commerciality effective March 1, 2008) of $85 million, crude
oil revenues ($9 million higher) and natural gas revenues ($6 million higher),
due to increased production and selling prices.
In the first quarter of 2008, the company entered into a "costless
collar" contract with a third party to receive a minimum of US $7.50 per mmbtu
and a maximum of US $10.05 per mmbtu on a notional quantity of 5,000 mmbtu per
day of natural gas sold between April 1, 2008 and October 31, 2008. This
transaction was not meant to speculate on future natural gas prices, but
rather to protect the downside risk to the company's cash flow and the lending
value of its assets. The impact of mark-to-market adjustments to the company's
natural gas revenues in the increasing pricing environment had the effect of
reducing reported revenues by $1.6 million (or $1.25 per mcf) in the second
quarter of 2008 ($2.4 million or $1.08 per mcf for the first six months of
2008).
Royalties represent charges against production or revenue by governments
and landowners. Royalties in the second quarter of 2008 were $5.4 million
compared to $657,000 in the second quarter of 2007. Royalties for the first
six months of 2008 were $8.4 million compared to $3.2 million in the first
half of 2007. From year to year, royalties can change based on changes in the
product mix, the components of which are subject to different royalty rates.
Additionally, royalty rates typically escalate with increased product prices.
The most notable change in royalties this year came as a result of additional
conventional crude oil and natural gas production volumes and increased
product pricing. New bitumen production royalties payable at the rate of one
percent of the bitumen selling price also contributed to increased royalties
in 2008.
In the second quarter of 2008, upstream diluent purchases of
$31.3 million (year to date $39.4 million) related to the oil sands bitumen
production and dilbit sales. Bitumen produced at Great Divide Pod One is mixed
with purchased diluent and sold as "dilbit". Diluent is a light hydrocarbon
that improves the marketing and transportation quality of bitumen. For the
reported volumes, diluent purchased represented approximately 27 percent of
the dilbit barrel sold, with bitumen the remaining 73 percent. It is
anticipated that less diluent will be necessary when oil sands production and
handling operations are optimized and higher volumes are processed. The price
of diluent is influenced by supply and demand and in the current period
historically high prices prevailed as a result of these factors.
Field operating costs of $19.6 million in the second quarter
($25.5 million for the year to date) were substantially higher than in the
second quarter of 2007 ($2.7 million) and in the first six months of 2007
($4.6 million). Most of the increase ($16.3 million for the second quarter and
$19.7 million for the year to date) relates to new oil sands production since
March 1, 2008. Incremental crude oil and natural gas production volumes also
caused field operating costs to increase by $696,000 in the second quarter and
by $1.25 million in the year to date over prior year, but on a per unit basis,
these conventional operating costs were lower than in the prior year.
Oil sands field operating costs of $16.3 million in the second quarter
($19.7 million since March 1, 2008) averaged $29.22 ($27.39 year to date) per
barrel of bitumen produced. Approximately 50 percent of this cost was for
natural gas required in the SAGD steaming process. Connacher's production and
sale of natural gas ultimately offsets this cost, but the cost is required to
be reported as part of the cost of producing bitumen. Oil sands field
operating costs in the second quarter were also impacted by a minor turnaround
to clean out vessels at Pod One, by a debottlenecking to manage vapours
produced by the treating process and downtime to activate a new trucking
terminal. As a significant portion of other field operating cost components
(such as personnel and electricity) are fixed in nature, a reduction in per
unit field operating costs are anticipated to be achievable with anticipated
increases in bitumen production volumes.
Transportation and marketing costs of $2.9 million ($3.4 million for the
year to date) represent the cost of trucking a portion of the company's oil
sands sales to market. The majority of sales were priced "net of
transportation".
Netbacks are a widely used industry measure of a company's efficiency and
its ability to internally fund its growth. The company's overall second
quarter upstream netback of $33.83 per produced boe (a 21 percent increase
over the same 2007 period) was significantly influenced by its oil sands
production, which had a netback of $30.91 per bitumen barrel produced. At this
early stage of development and anticipating more operating efficiencies will
be realized, particularly with expected higher production volumes, the company
anticipates it will improve its oil sands results by year end 2008, assuming
prices remain at similar levels.Reconciliation of Netback to Net Earnings
-------------------------------------------------------------------------
For the six months
ended June 30 2008 2007
-------------------------------------------------------------------------
($000, except per
unit amounts) Total Per boe Total Per boe
-------------------------------------------------------------------------
Upstream netback as above $43,080 $33.83 $12,028 $28.00
Interest income 1,544 1.21 345 0.80
Refining margin - net 400 0.31 29,346 68.29
General and administrative (5,977) (4.69) (5,248) (12.21)
Stock-based compensation (2,697) (2.12) (3,279) (7.63)
Finance charges (14,729) (11.57) (1,710) (3.98)
Foreign exchange (loss) gain (5,209) (4.09) 16,188 37.67
Depletion, depreciation
and accretion (21,289) (16.72) (14,721) (34.25)
Income taxes 313 0.25 (12,747) (29.67)
Equity interest in
Petrolifera earnings
and dilution gain 9,414 7.39 7,010 16.31
-------------------------------------------------------------------------
Net earnings $4,850 $3.80 $27,212 $63.33
-------------------------------------------------------------------------DOWNSTREAM REVENUES AND MARGINS
The Montana refinery is subject to a number of seasonal factors which
typically cause product sales revenues to vary throughout the year. The
refinery's primary asphalt market is for paving roads which is predominantly a
summer demand. Consequently, prices and sales volumes for our asphalt tend to
be higher in the summer and lower in the colder seasons. During the winter,
most of the refinery's asphalt production is stored in tankage for sale in the
subsequent summer months. Seasonal factors also affect sales revenues for
gasoline (higher demand in summer months) as well as distillate and diesel
fuels (higher winter demand). As a result, inventory levels, sales volumes and
prices can be expected to fluctuate on a seasonal basis.
In the second quarter of 2008, the company's refining revenues
($117.8 million) were higher than in the first quarter of 2008 ($71.9 million)
and were higher than the second quarter of 2007 ($84.6 million) due to
generally higher refined product prices and higher levels of asphalt sales.
Refining costs of sales in the second quarter of 2008 ($118 million) were
higher than in the first quarter of 2008 ($71.4 million) and in the second
quarter of 2007 ($66.5 million) due to higher crude oil costs. For the first
half of 2008, refining revenues ($190 million) were higher than in the first
half of 2007 ($142 million) also because of higher refined product prices and
costs of sales for the 2008 year to date ($189 million) increased from 2007
($113 million) also due to higher crude costs.
The company's refining margins have fallen markedly in 2008, as the
selling prices of refined products did not keep pace with rising crude and
other feedstock costs. Our Montana heavy oil refining margins also typically
capture the difference between heavy and light crude oil costs. As this
differential narrowed in 2008, there was less differential to recover.
However, narrowing differentials resulted in higher oil sands bitumen revenues
and netbacks, affirming the company's integrated business model.Refinery throughput - June 30, Sept 30, Dec 31, Mar 31, June 30,
three months ended 2007 2007 2007 2008 2008
-------------------------------------------------------------------------
Crude charged (bbl/d)(1) 9,248 9,400 9,610 9,830 9,329
Refinery production
(bbl/d)(2) 10,085 10,478 10,578 11,081 10,052
Sales of produced
refined products (bbl/d) 9,753 12,906 10,629 7,408 12,274
Sales of refined
products (bbl/d)(3) 10,735 13,447 11,014 7,902 12,878
Refinery utilization(4) 97% 100% 101% 104% 98%
-------------------------------------------------------------------------
(1) Crude charged represents the barrels per day of crude oil processed
at the refinery.
(2) Refinery production represents the barrels per day of refined
products yielded from processing crude and other refinery feedstocks.
(3) Includes refined products purchased for resale.
(4) Represents crude charged divided by total crude capacity of the
refinery.
Feedstocks - June 30, Sept 30, Dec 31, Mar 31, June 30,
three months ended 2007 2007 2007 2008 2008
-------------------------------------------------------------------------
Sour crude oil 93% 91% 93% 92% 93%
Other feedstocks and blends 7% 9% 7% 8% 7%
-------------------------------------------------------------------------
Total 100% 100% 100% 100% 100%
-------------------------------------------------------------------------
Revenues and Margins
($000)
-------------------------------------------------------------------------
Refining sales revenue $84,628 $95,093 $75,733 $71,899 $117,820
Refining - crude oil
and operating costs 66,480 81,107 70,863 71,393 117,926
-------------------------------------------------------------------------
Refining margin $18,148 $13,986 $4,870 $506 $(106)
-------------------------------------------------------------------------
Refining margin 21.4% 14.7% 6.4% 0.7% (0.1%)
-------------------------------------------------------------------------
Sales of Produced Refined
Products (Volume %)
-------------------------------------------------------------------------
Gasolines 40% 31% 35% 47% 32%
Diesel fuels 18% 12% 16% 27% 11%
Jet fuels 5% 6% 6% 8% 5%
Asphalt 33% 48% 39% 13% 48%
LPG and other 4% 3% 4% 5% 4%
-------------------------------------------------------------------------
Total 100% 100% 100% 100% 100%
-------------------------------------------------------------------------
Per Barrel of Refined
Product Sold
-------------------------------------------------------------------------
Refining sales revenue $86.63 $76.87 $74.74 $99.99 $100.54
Less: refining - crude
oil purchases and
operating costs 68.05 65.56 69.93 99.28 100.63
-------------------------------------------------------------------------
Refining margin $18.58 $11.31 $4.81 $0.71 ($0.09)
-------------------------------------------------------------------------INTEREST AND OTHER INCOME
In the second quarter of 2008, the company earned interest of $713,000
(second quarter June 30, 2007 - $225,000; 2008 year to date - $1.5 million;
2007 year to date - $345,000) on excess funds invested in secure short-term
investments.
GENERAL AND ADMINISTRATIVE EXPENSES
In the second quarter of 2008, general and administrative ("G&A")
expenses were $2.9 million compared to $1.7 million in the second quarter of
2007, an increase of 80 percent, as the company increased its staffing levels
as a result of increased activity; also, G&A of $1.1 million (2007 - $810,000)
was capitalized in the second quarter of 2008.
For the first six months of 2008, G&A expensed was $6 million compared to
$5.2 million expensed in the first six months of 2007, after capitalizing
$3 million in the first half of 2008 and $1.1 million in the first half of
2007.
STOCK BASED COMPENSATION
The company recorded non-cash stock-based compensation charges in the
respective periods as follows:-------------------------------------------------------------------------
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000) 2008 2007 2008 2007
-------------------------------------------------------------------------
Charged to G&A expense $1,181 $333 $2,697 $3,279
-------------------------------------------------------------------------
Capitalized to property and
equipment 224 542 1,022 1,088
-------------------------------------------------------------------------
$1,405 $875 $3,719 $4,367
-------------------------------------------------------------------------The reduction from the prior period is due to fewer options being
granted.
FINANCE CHARGES
Finance charges include interest expensed relating to the Convertible
Debentures, amounts drawn on revolving lines of credit, standby fees
associated with the company's undrawn lines of credit, fees on letters of
credit issued, and a portion of the Senior Notes interest expense attributable
to Great Divide Pod One since it was declared commercial, effective March 1,
2008. Finance charges also include non-cash accretion charges with respect to
the Convertible Debentures and a portion to the Senior Notes.
Expensed finance charges of $10.3 million in the second quarter of 2008
(year to date: $14.7 million) compared to $1.3 million reported in the second
quarter of 2007 (2007 year to date: $1.7 million). These charges increased
primarily due to the issuance of the Convertible Debentures in May 2007 and
Senior Notes in December 2007. A portion of the interest on the Senior Notes
has been expensed from March 1, 2008, the date of commencement of commercial
operations at Pod One.
FOREIGN EXCHANGE GAINS AND LOSSES
In the second quarter of 2008, the company recorded an unrealized foreign
exchange loss of $3.3 million (year to date: $5.2 million loss) with respect
to the translation of its US dollar denominated indebtedness and its currency
swap. An unrealized foreign exchange gain of $14.5 million was recorded in the
second quarter of 2007 (2007 year to date: $16.2 million gain) on translation
of US dollar denominated indebtedness. A weaker Canadian dollar since placing
the US dollar-denominated Senior Notes caused these unrealized foreign
exchange losses in 2008.
DEPLETION, DEPRECIATION AND ACCRETION ("DD&A")
Depletion expense is calculated using the unit-of-production method based
on total estimated proved reserves. Effective March 1, 2008, Pod One's
accumulated capital costs were added to the depletion pool and are being
depleted from that date. The depletion calculation for the second quarter of
2008 considered the significant increases in proved reserves as reported by
the company's independent reserve evaluators as at June 30, 2008, included
future development costs of $999 million (June 30, 2007 - $15 million) for
proved undeveloped reserves, but excluded capital costs of $193 million
(June 30, 2007 - $339 million) related to oil sands projects currently in the
pre-production stage and undeveloped land costs. The benefit of adding
substantial Pod One proved reserves has reduced per unit depletion costs to
$13.31 per boe in the second quarter of 2008 compared to $27.17 per boe in the
second quarter of 2007.
Costs excluded from the depletion pool have been separately tested for
impairment. At June 30, 2008 the value of these assets exceeded their
accumulated costs.
Refining properties and other capital assets are depreciated over their
useful lives.
Included in DD&A for the six months ended June 30, 2008 is an accretion
charge of $845,000 (six months ended June 30, 2007 - $433,000) in respect of
the company's estimated asset retirement obligations. These charges will
continue in future years in order to accrete the currently booked discounted
liability of $24.4 million to the estimated total undiscounted liability of
$44 million over the remaining economic life of the company's oil sands, crude
oil and natural gas properties.
Total DD&A for the three months ended June 30, 2008 was $13.8 million
(three months ended June 30, 2007 - $7.4 million) and for the six months ended
June 30, 2008 was $21.3 million (six months ended June 30, 2007 -
$14.7 million). Although depletion per boe has been significantly reduced,
production volumes have substantially increased year over year. It is
primarily for this reason that overall DD&A charges have increased.
INCOME TAXES
The income tax recovery of $313,000 in the first six months of 2008
includes a current income tax provision of $1.5 million, principally related
to Canadian capital and other taxes and a future income tax recovery of
$1.8 million reflecting the benefit of increased tax pools during the period.
At June 30, 2008 the company had approximately $108 million of non-
capital losses which expire between 2010 and 2028, $174 million of capital
losses which do not have an expiry date, $506 million of deductible resource
pools and $32 million of deductible financing costs.
EQUITY INTEREST IN PETROLIFERA PETROLEUM LIMITED ("PETROLIFERA")
In May 2007, Connacher exercised warrants to purchase 1.7 million
additional common shares in Petrolifera for total consideration of
$5.1 million. As a result, the company maintained its 26 percent equity
interest, as other Petrolifera shareholders similarly exercised their warrants
on identical terms. As a consequence, Connacher booked a dilution gain of
$1.9 million.
In June 2008, Petrolifera issued an additional 4.4 million common shares
to raise $40 million. Connacher did not subscribe for any of these shares.
Consequently, Connacher's equity interest in Petrolifera was reduced from 26
percent to 24 percent. However, the financing resulted in a dilution gain of
$8 million which was recognized by Connacher in the second quarter of 2008.
Connacher accounts for its 24 percent equity investment in Petrolifera on
the equity method basis of accounting. Connacher's equity interest share of
Petrolifera's earnings in the first six months of 2008 was $1.4 million (six
months ended June 30, 2007 - $5.1 million). In the second quarter of 2008,
Connacher's share of Petrolifera's earnings were $935,000 (second quarter 2007
- $1.2 million).
Additional information relating to Petrolifera including its assets,
liabilities and results of operations can be found in Petrolifera's second
quarter 2008 interim report which has been posted on SEDAR at www.sedar.com
and which is not incorporated by reference in this management's discussion and
analysis. Readers are cautioned that as a result of the exercise of any
outstanding options of Petrolifera and the issuance by Petrolifera of
additional securities, Connacher's interest in Petrolifera will decrease,
unless Connacher participates in such issuances of securities.
NET EARNINGS
In the second quarter of 2008 the company reported earnings of
$6.7 million ($0.03 per basic and diluted share outstanding) compared to
earnings of $22.2 million ($0.11 per basic and diluted share outstanding) in
the second quarter of 2007.
In the first six months of 2008 the company reported earnings of
$4.9 million ($0.02 per basic and diluted share outstanding) compared to
earnings of $27.2 million or $0.14 per basic and diluted share for the first
six months of 2007.
Explanations for the period to period fluctuations are included in the
narrative above, by earnings component.
SHARES OUTSTANDING
For the first six months of 2008, the weighted average number of common
shares outstanding was 210,446,291 (2007 - 198,240,426) and the weighted
average number of diluted shares outstanding, as calculated by the treasury
stock method, was 213,324,122 (2007 - 204,762,395).
As at August 11, 2008, the company had the following equity securities
issued and outstanding:- 211,051,815 common shares;
- 19,157,864 share purchase options; and
- 392,705 share units ("SUs") under the non-employee director share
awards plan.Additionally, 20,010,000 common shares are issuable upon conversion of
the Convertible Debentures. Details of the exercise provisions and terms of
the outstanding options are noted in the consolidated financial statements,
included in this interim report.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2008, the company had working capital of $234 million
(December 31, 2007 - $390 million; June 30, 2007 - $36 million), including
$233 million of cash on hand (December 31, 2007 - $392 million; June 30, 2007
- $25 million). Of this amount $32 million was restricted in an interest
reserve account related to the Senior Notes.
At June 30, 2008 the company also had approximately $173 million
available to be drawn on its five-year term Revolving Credit Facilities, as
approximately $27 million had been used to secure letters of credit primarily
for its crude oil purchase activity associated with the refining business.
Available cash, anticipated cash flow and funds available under its Revolving
Credit Facilities are judged to be sufficient to fully fund the company's
capital program in 2008 and to complete Algar in 2009. A significant part of
the company's capital program is discretionary and may be expanded or
curtailed based on drilling results and the availability of capital. This is
reinforced by the fact that Connacher operates most of its wells and holds a
very high working interest in all its properties, providing the company with
operational and timing controls.
Cash flow and cash flow per share do not have standardized meanings
prescribed by GAAP and therefore may not be comparable to similar measures
used by other companies. Cash flow includes all cash flow from operating
activities and is calculated before changes in non-cash working capital,
pension funding and asset retirement expenditures. The most comparable measure
calculated in accordance with GAAP is net earnings. Cash flow is reconciled
with net earnings on the Consolidated Statement of Cash Flows and below.
Cash flow per share is calculated by dividing cash flow by the calculated
weighted average number of shares outstanding. Management uses this non-GAAP
measurement (which is a common industry parameter) for its own performance
measure and to provide its shareholders and investors with a measurement of
the company's efficiency and its ability to fund future growth expenditures.
The company's only financial instruments are cash, restricted cash,
accounts receivable and payable, amounts due to Petrolifera, the Revolving
Credit Facilities, the Convertible Debentures, the Senior Notes and the cross-
currency swap. The company maintains no off-balance sheet financial
instruments.
As the Senior Notes are denominated in US dollars, there is a foreign
exchange risk associated with their repayment using Canadian currency. This
risk is partially mitigated by the cross currency swap.
The natural gas costless collar is intended to mitigate some downside
natural gas pricing risk and, therefore, protect the risk of reduced cash flow
and the risk of reductions to the lending value of its banking facilities,
which is considered particularly important in a time of rapid growth with
significant capital expenditure.Connacher's capital structure is composed of:
As at As at
June 30, December 31,
2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Long term debt(1) $684,705 $664,462
Shareholders' equity
Share capital, contributed surplus
and equity component 435,194 444,086
Accumulated other comprehensive loss (10,556) (13,636)
Retained earnings 54,839 49,989
-------------------------------------------------------------------------
Total $1,164,182 $1,144,901
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Debt to book capitalization(2) 59% 58%
Debt to market capitalization(3) 42% 44%
-------------------------------------------------------------------------
(1) Long-term debt is stated at its carrying value, which is net of fair
value adjustments, original issue discounts, transaction costs and
the Convertible Debentures' equity component value.
(2) Calculated as long-term debt divided by the book value of
shareholders' equity plus long-term debt.
(3) Calculated as long-term debt divided by the period end market value
of shareholders' equity plus long-term debt.Connacher had a high calculated ratio of debt to capitalization at
June 30, 2008. This is due to pre-funding the full cost of Algar in 2007
through the issuance of US $600 million of Senior Notes, a portion of which
proceeds was used to repay previously incurred indebtedness incurred for Pod
One. As at June 30, 2008, the company's calculated ratio of net debt
(long-term debt, net of cash on hand) to book capitalization was 39 percent
and the percentage of net debt to market capitalization was 28 percent.
In the first quarter of 2008, Pod One, the company's first oil sands
facility, commenced commercial operations. It is anticipated that Pod One will
attain its design capacity of 10,000 bbl/d of bitumen production during 2008.
This is expected to result in substantially higher levels of revenue and cash
flow for the company, assuming product prices and netbacks do not
significantly change from current levels. This cash flow, and cash deposited
in a debt service account, are anticipated to be more than sufficient to fund
the company's interest costs in 2008.
Reconciliation of net earnings to cash flow from operations before
working capital and other changes:Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
($000s)
-------------------------------------------------------------------------
Net earnings $6,683 $22,228 $4,850 $27,212
Items not involving cash:
Depletion, depreciation
and accretion 13,825 7,363 21,289 14,721
Stock-based compensation 1,181 333 2,697 3,279
Finance charges-non-cash portion 4,058 324 5,307 324
Future employee benefits 114 122 227 252
Future income tax provision
(recovery) 373 4,102 (1,790) 5,267
Foreign exchange (gain) loss 3,317 (14,486) 5,209 (16,188)
Equity interest in Petrolifera
earnings (935) (1,214) (1,390) (5,114)
-------------------------------------------------------------------------
Dilution gain (8,066) (1,896) (8,024) (1,896)
-------------------------------------------------------------------------
Cash flow from operations
before working capital and
other changes $20,550 $16,876 $28,375 $27,857
-------------------------------------------------------------------------In the second quarter of 2008 cash flow was $20.6 million ($0.10 per
basic and diluted share), 22 percent higher than the $17 million reported
($0.09 per basic and $0.08 per diluted share) for the second quarter of 2007,
and in the first half of 2008 cash flow was $28.4 million ($0.14 per basic and
$0.13 per diluted share) compared to cash flow of $27.9 million ($0.14 per
basic and diluted share) reported in the first half of 2007, with the
increases due to higher upstream product prices and new bitumen sales offset
by reduced refining margins in 2008 compared to the 2007 periods.
Senior Notes
In December 2007 the company issued US $600 million second lien eight-
year notes ("Senior Notes") at an issue price of 98.657 for net proceeds of
US $575 million after fees and expenses. A portion of the proceeds was used to
repay the US $180 million Oil Sands Term Loan, to fully repay drawn amounts
and then cancel the company's conventional oil and gas line of credit and to
fund a one-year interest reserve account in the amount of US $63.6 million.
The remainder of the proceeds are targeted to partially fund the construction
of Algar.
To June 30, 2008, the proceeds of the Senior Note financing have been
utilized as follows:As stated at
the time of As actually
financing(1) applied(1)
-------------------------------------------------------------------------
($000s)
-------------------------------------------------------------------------
Gross proceeds $576,380 $591,942
Underwriters commissions and issue costs (13,380) (16,493)
Repayment of Oil Sands Term Loan (186,000) (180,000)
Funding interest reserve account (66,000) (63,600)
Repay the conventional line of credit - (2,500)
-------------------------------------------------------------------------
Net proceeds for the construction of Algar(2) $311,000 $329,349
-------------------------------------------------------------------------
(1) The Canadian dollar equivalent changed between the dates of
announcing and closing the financing due to significant changes in
the CDN/US exchange rates in late 2007.
(2) Net proceeds are available for funding capital expenditures relating
to Algar. As at June 30, 2008, approximately $25 million of cash had
been used to fund the expenditures incurred.
PROPERTY AND EQUIPMENT ADDITIONS
Property and equipment additions totaled $80.4 million in the second
quarter of 2008 and $196.4 million year to date (second quarter 2007 -
$93.2 million and $203.1 million first half of 2007). A breakdown of these
additions follows:
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000) 2008 2007 2008 2007
-------------------------------------------------------------------------
Crude oil, natural gas and
oil sands $75,475 $90,466 $188,432 $197,260
Refinery expenditures 4,928 2,757 7,956 5,844
-------------------------------------------------------------------------
$80,403 $93,223 $196,388 $203,104
-------------------------------------------------------------------------Crude oil, natural gas and oil sands capital costs of $75.5 million in
the second quarter of 2008 were comprised of preliminary facility expenditures
and costs incurred for certain long-lead equipment items for the Algar
project, truck loading facilities at Pod One, core hole and conventional
drilling costs and capitalized G&A and interest costs.
For the 2008 year to date, conventional and oil sands exploration
expenditures totaled $70 million, Algar facility and equipment expenditures
totaled $49 million; conventional natural gas facilities totaled $12 million;
Pod One trucking facility and capitalized pre-operating costs totaled
$20 million and capitalized interest, G&A and other expenditures totaled
$37 million. The capital program added significant additional natural gas
production and significant additions to proved, probable and possible reserves
and contingent and prospective resources, as recently reported in the
company's mid-year reserve update.
At our refinery, $5 million has been incurred on the ultra low sulphur
diesel conversion project. Total company year to date capital expenditures
were tracking close to our 2008 capital budget.
In 2007, capital costs were primarily focused on the Great Divide Pod One
facility and the upstream drilling program.
Second half 2008 capital expenditures will be focused on Algar.
OUTLOOK
The company's business plan anticipates continued growth, with stronger
production revenue and cash flow as Pod One achieved commerciality, effective
March 1, 2008. Emphasis will continue to be placed on delineating and
developing more production projects at Great Divide, while developing the
company's recently-expanded conventional production base and profitably
operating the Montana refinery. Additional financing may be required for
future projects at Great Divide, for development of conventional petroleum and
natural gas assets and for the Montana refinery, if a decision is made to
expand refining capacity.
The company's first 10,000 bbl/d oil sands project, Pod One, was
completed on schedule in 2007. Fourteen of the fifteen horizontal well pairs
are presently producing in excess of 8,000 bbl/d. It is anticipated that the
targeted bitumen production volume of 10,000 bbl/d will be achieved in 2008.
The company's second 10,000 bbl/d SAGD oil sands project, Algar, is
expected to commence a 10-month period of construction in the second half of
2008, following receipt of the necessary governmental regulatory approvals.
Algar's design is similar to that of Pod One and its construction timetable is
expected to be comparable. Production from Algar is anticipated to commence in
late 2009 or early 2010 and add an additional 10,000 bbl/d to Connacher's
growing production base. The cost of Algar was originally budgeted at
$326 million, as it incorporated scope changes and increased infrastructure
costs relative to Pod One. The originally budgeted cost of the Algar project
was fully funded in December 2007. We are finalizing our hazardous operations
analysis of Algar which may result in changes to overall cost estimates.
Available cash, anticipated cash flow and funds available under its revolving
credit facilities are judged to be sufficient to fully fund the company's
capital program in 2008 and to complete Algar in 2009.
Additional 10,000 bbl/d SAGD oil sands projects (Pods) are anticipated,
subject to confirmation of definitive additional reserves and resources. The
timing of additional Pods is dependent on a number of factors which are
outside of the control of the company, including the regulatory process.
Connacher has increased its 2008 firm and contingent capital expenditure
budget to $413 million including $8 million of non-cash items from
$391 million to provide for increased capital outlays on conventional assets,
following a successful winter 2008 drilling program, for oil terminal and
related trucking facilities at Pod One and a cogeneration plant at Algar, with
these increases offset by the deferral of some anticipated expenditures at the
Montana refinery.
Information relating to Connacher, including Connacher's Annual
Information Form is on SEDAR at www.sedar.com. See also the company's website
at www.connacheroil.com.
RELATED PARTY TRANSACTIONS
A portion of the company's conventional crude oil and natural gas
exploration and drilling activities completed in the first half of 2008, and
which activities will continue in the future, was conducted with a joint
venture partner - a company - an officer of which is also a director of
Connacher. Transactions with the related party occurred within the normal
course of business and have been measured at their exchange amount on normal
business terms. The exchange amount is the amount of consideration established
and agreed to by the related party. These capital expenditures incurred to
date are not considered material to the company's overall capital expenditure
program.
SIGNIFICANT ACCOUNTING POLICIES AND APPLICATION OF CRITICAL ACCOUNTING
ESTIMATES
The significant accounting policies used by the company are described
below. Certain accounting policies require that management make appropriate
decisions with respect to the formulation of estimates and assumptions that
affect the reported amounts of assets, liabilities, revenues and expenses.
Changes in these estimates and assumptions may have a material impact on the
company's financial results and condition. The following discusses such
accounting policies and is included herein to aid the reader in assessing the
critical accounting policies and practices of the company and the likelihood
of materially different results being reported. Management reviews its
estimates and assumptions regularly. The emergence of new information and
changed circumstances may result in changes to estimates and assumptions which
could be material and the company might realize different results from the
application of new accounting standards promulgated, from time to time, by
various regulatory rule-making bodies.
The following assessment of significant accounting polices and critical
accounting estimates is not meant to be exhaustive.
Reserve Estimates
Under Canadian Securities Administrators' "National Instrument 51-101-
Standards of Disclosure for Oil and Gas Activities" ("NI 51-101") proved
reserves are those reserves that can be estimated with a high degree of
certainty to be recoverable. In accordance with this definition, the level of
certainty should result in at least a 90 percent probability that the
quantities actually recovered will exceed the estimated reserves. In the case
of probable reserves, which are less certain to be recovered than proved
reserves, NI 51-101 states that it must be equally likely that the actual
remaining quantities recovered will be greater or less than the sum of the
estimated proved plus probable reserves. Possible reserves are those reserves
less certain to be recovered than probable reserves. There is at least a
10 percent probability that the quantities actually recovered will exceed the
sum of proved plus probable plus possible reserves.
The company's oil and gas reserve estimates are made by independent
reservoir engineers using all available geological and reservoir data as well
as historical production data. Estimates are reviewed and revised as
appropriate. Revisions occur as a result of changes in prices, costs, fiscal
regimes, reservoir performance or a change in the company's plans. The reserve
estimates can also be used in determining the company's borrowing base for its
credit facilities and may impact the same upon revision or changes to the
reserve estimates. The effect of changes in reserve estimates on the financial
results and financial position of the company is described below.
Full Cost Accounting for Oil and Gas Activities
The company uses the full cost method of accounting for exploration and
development activities. In accordance with this method of accounting, all
costs associated with exploration and development are capitalized whether
successful or not. The aggregate of net capitalized costs and estimated future
development costs is depleted using the unit-of-production method based on
estimated proved reserves. A change in estimated total proved reserves could
significantly affect the company's calculation of depletion.
Major Development Projects and Unproved Properties
Certain costs related to acquiring and evaluating unproved properties are
excluded from net capitalized costs subject to depletion until proved reserves
have been determined or their value is impaired. Costs associated with major
development projects are not depleted until commencement of commercial
operations. All capitalized costs are reviewed quarterly and any impairment is
transferred to the costs being depleted or, if the properties are located in a
cost centre where there is no reserve base, the impairment is charged directly
to income.
All costs related to the Great Divide oil sands project are being
capitalized to specific projects, or "Pods", pending commencement of
commercial operations from each Pod. Upon commencement of commercial
operations of a Pod, the related capital costs and estimates of future capital
requirements for such Pod will be added to the company's depletable costs and
depleted under the unit-of-production method based on the company's total
proved reserves. Effective March 1, 2008, the company's first oil sands
project, Pod One, was declared commercially operative and its related costs
were added to the company's depletable cost pool.
Ceiling Test
The company is required to review the carrying value of all property,
plant, and equipment, including the carrying value of its conventional and its
commercially operative oil sands properties, for potential impairment.
Impairment is indicated if the carrying value of the long-lived asset or oil
and gas cost centre is not recoverable by the future undiscounted cash flows.
If impairment is indicated, the amount by which the carrying value exceeds the
estimated fair value of the long-lived asset is charged to earnings.
The ceiling test is based on estimates of reserves prepared by qualified
independent evaluators, production rate, crude oil, bitumen and natural gas
prices, future costs and other relevant assumptions. By their nature, reserve
estimates are subject to measurement uncertainty and the impact of ceiling
test calculations on the consolidated financial statements of changes to
reserve estimates could be material.
Asset Retirement Obligations
The company is required to provide for future removal and site
restoration costs by estimating these costs in accordance with existing laws,
contracts or other policies. These estimated costs are charged to earnings and
the appropriate liability account over the expected service life of the asset.
When the future removal and site restoration costs cannot be reasonably
determined, a contingent liability may exist. Contingent liabilities are
charged to earnings only when management is able to determine the amount and
the likelihood of the future obligation. The company estimates future
retirement costs based on current costs as estimated by the company's
engineers, adjusted for inflation and credit risk. These estimates are subject
to measurement uncertainty.
Legal, Environmental Remediation and Other Contingent Matters
In respect of these matters, the company is required to determine whether
a loss is probable, based on judgment and interpretation of laws and
regulations and also to determine if such a loss can be estimated. When any
such loss is determined, it is charged to earnings. Management continually
monitors known and potential contingent matters and makes appropriate
provisions by charges to earnings when warranted by circumstance.
Income Taxes
The company follows the liability method of accounting for income taxes.
Under this method, tax assets are recognized when it is more than likely that
realization will occur. Tax liabilities are recognized for temporary
differences between recorded book values and underlying tax values. Rates used
to determine income tax asset and liability amounts are enacted tax rates
expected to be used in future periods, when the timing differences reverse.
The period in which timing differences reverse is impacted by future income
and capital expenditures. Rates are also affected by legislative changes.
These components can impact the charge for future income taxes.
Stock-Based Compensation
The company uses the fair value method to account for stock options. The
determination of the amounts for stock-based compensation are based on
estimates of stock volatility, interest rates and the term of the option. By
their nature, these estimates are subject to measurement uncertainty.
NEW SIGNIFICANT ACCOUNTING POLICIES
As of January 1, 2008, the company adopted new CICA Handbook, Section
3862, "Financial Instruments - Disclosures" and Section 3863, "Financial
Instruments - Presentation" which replaced former Section 3861. The new
standards require disclosure of the significance of financial instruments to
an entity's financial statements, the risks associated with the financial
instruments and how those risks are managed.
As of January 1, 2008, the company also adopted new CICA Handbook Section
1535, "Capital Disclosures" which requires entities to disclose their
objectives, policies and processes for managing capital and, in addition,
whether the entity has complied with any externally imposed capital
requirements.
In February 2008, the CICA issued Section 3064, "Goodwill and Intangible
Assets", replacing Section 3062, "Goodwill and Other Intangible Assets" and
Section 3450, "Research and Development Costs". The new Sections will be
applicable to financial statements relating to fiscal years beginning on or
after October 1, 2008. Accordingly, the company will adopt the new standards
for its fiscal year beginning January 1, 2009. Section 3064 establishes
standards for the recognition, measurement, presentation and disclosure of
goodwill subsequent to its initial recognition and of intangible assets by
profit-oriented enterprises. Standards concerning goodwill are unchanged from
the standards included in the previous Section 3062, and therefore are not
anticipated to have a significant impact on the company's financial
statements.
INTERNATIONAL FINANCIAL REPORTING STANDARDS
In January 2006, the Canadian Accounting Standards Board adopted a
strategic plan for the direction of accounting standards in Canada. As part of
the plan, Canadian GAAP for public companies will converge with International
Financial Reporting Standards ("IFRS") over the next few years. The company is
currently assessing the impact of the convergence of Canadian GAAP with IFRS
on its financial statements and expects to begin work on the conversion
process later in 2008.
RISK FACTORS AND RISK MANAGEMENT
Connacher is exposed to risks and uncertainties inherent in the oil and
gas exploration, development, production and refining industry. A detailed
summary of the company's risks and uncertainties is included in the company's
2007 Annual Information Form and in MD&A included in the company's 2007 annual
report, which are available on SEDAR at www.sedar.com and on the company's
website at www.connacheroil.com.
Some of the more significant risks affecting Connacher's operating and
financial results in the first half of 2008 related to changing commodity
prices, which were influenced by a weaker US dollar. The average WTI selling
price increased by approximately 80 percent to $110.94/bbl in the first half
of 2008. Additionally, the heavy oil : light oil pricing differential
narrowed. These two factors were the main reasons that refining margins shrank
from 20 percent in the first half of 2007 to one percent in the first half of
2008. However, these two factors had a positive impact on pricing the
company's 2008 first half bitumen and crude oil revenues, reflecting the
benefit of the company's integrated business model.
DISCLOSURE CONTROLS AND PROCEDURES
Disclosure controls and procedures have been designed to ensure that
information required to be disclosed by the company is accumulated, recorded,
processed, summarized and reported to the company's management as appropriate
to allow timely decisions regarding required disclosure. The company's Chief
Executive Officer and Chief Financial Officer have concluded, based on their
evaluation as of the end of the period covered by this MD&A, that the
company's disclosure controls and procedures as of the end of such period are
effective to provide reasonable assurance that material information related to
the company, including its consolidated subsidiaries, is communicated to them
as appropriate to allow timely decisions regarding required disclosure.
INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of the company is responsible for designing adequate internal
controls over the company's financial reporting to provide reasonable
assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes in accordance with Canadian
GAAP. There have been no changes in the company's systems of internal control
over financial reporting that would materially affect, or is reasonably likely
to materially affect, the company's internal controls over financial
reporting.
It should be noted that while the company's Chief Executive Officer and
Chief Financial Officer believe that the company's disclosure controls and
procedures provide a reasonable level of assurance that they are effective and
that the internal controls over financial reporting are adequately designed,
they do not expect that the financial disclosure controls and procedures or
internal control over financial reporting will prevent all errors and fraud. A
control system, no matter how well conceived or operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. In reaching a reasonable level of assurance, management necessarily
is required to apply its judgment in evaluating the cost-benefit relationship
of possible controls and procedures.
QUARTERLY RESULTS
Fluctuations in results over the previous eight quarters are due
principally to variations in oil and gas prices and production/sales volumes.-------------------------------------------------------------------------
2006 2007
-------------------------------------------------------------------------
Three Months Ended Sep 30 Dec 31 Mar 31 Jun 30
-------------------------------------------------------------------------
Financial Highlights ($000
except per share amounts)
- Unaudited
-------------------------------------------------------------------------
Revenues 103,110 76,700 65,923 93,266
-------------------------------------------------------------------------
Cash flow(1) 14,957 14,015 10,980 16,876
-------------------------------------------------------------------------
Basic, per share(1) 0.08 0.08 0.06 0.09
-------------------------------------------------------------------------
Diluted, per share(1) 0.08 0.07 0.05 0.08
-------------------------------------------------------------------------
Net earnings (loss) 6,771 3,267 4,984 22,228
-------------------------------------------------------------------------
Basic and diluted per share 0.03 0.02 0.03 0.11
-------------------------------------------------------------------------
Property and equipment additions 41,449 74,960 109,881 93,223
-------------------------------------------------------------------------
Cash on hand 14,450 142,391 66,209 25,375
-------------------------------------------------------------------------
Working capital surplus
(deficiency) (39,942) 118,626 24,027 36,320
-------------------------------------------------------------------------
Debt 62,380 229,254 207,828 272,559
-------------------------------------------------------------------------
Shareholders' equity 378,730 385,398 384,593 417,793
-------------------------------------------------------------------------
Operating Highlights
-------------------------------------------------------------------------
Daily production/sales volumes
-------------------------------------------------------------------------
Natural gas - mcf/d 12,711 11,291 9,665 9,017
-------------------------------------------------------------------------
Bitumen - bbl/d(2) - - - -
-------------------------------------------------------------------------
Crude oil - bbl/d 1,059 1,139 905 731
-------------------------------------------------------------------------
Equivalent - boe/d(3) 3,177 3,021 2,515 2,234
-------------------------------------------------------------------------
Product pricing
-------------------------------------------------------------------------
Crude oil - $/bbl 62.53 46.65 49.09 49.79
-------------------------------------------------------------------------
Bitumen - $/bbl(2) - - - -
-------------------------------------------------------------------------
Natural gas - $/mcf 5.33 6.57 7.76 7.02
-------------------------------------------------------------------------
Selected Highlights - $/boe(3)
-------------------------------------------------------------------------
Weighted average sales price 42.16 42.15 47.48 44.63
-------------------------------------------------------------------------
Royalties 10.72 9.00 11.22 3.23
-------------------------------------------------------------------------
Operating costs 7.99 9.27 8.54 13.08
-------------------------------------------------------------------------
Netback(4) 23.45 23.88 27.72 28.32
-------------------------------------------------------------------------
Refining throughput
-------------------------------------------------------------------------
Crude charged (bbl/d) 9,613 9,642 9,621 9,248
-------------------------------------------------------------------------
Refining utilization (%) 101 102 101 97
-------------------------------------------------------------------------
Margins (%) 16 15 19 21
-------------------------------------------------------------------------
Common Share Information
-------------------------------------------------------------------------
Shares outstanding at end
of period (000) 197,878 197,894 198,218 198,834
-------------------------------------------------------------------------
Weighted average shares
outstanding for the period
-------------------------------------------------------------------------
Basic (000) 193,587 193,884 198,119 198,360
-------------------------------------------------------------------------
Diluted (000) 200,572 204,028 200,008 209,088
-------------------------------------------------------------------------
Volume traded during quarter
(000) 48,849 46,444 55,292 61,162
-------------------------------------------------------------------------
Common share price ($)
-------------------------------------------------------------------------
High 4.55 4.43 4.13 4.43
-------------------------------------------------------------------------
Low 3.09 3.17 3.07 3.07
-------------------------------------------------------------------------
Close (end of period) 3.60 3.49 3.86 3.69
-------------------------------------------------------------------------
-------------------------------------------------------------------------
2007 2008
-------------------------------------------------------------------------
Three Months Ended Sep 30 Dec 31 Mar 31 Jun 30
-------------------------------------------------------------------------
Financial Highlights ($000
except per share amounts)
- Unaudited
-------------------------------------------------------------------------
Revenues 101,991 83,340 100,656 202,016
-------------------------------------------------------------------------
Cash flow(1) 10,025 7,084 7,825 20,550
-------------------------------------------------------------------------
Basic, per share(1) 0.05 0.03 0.04 0.10
-------------------------------------------------------------------------
Diluted, per share(1) 0.05 0.03 0.03 0.10
-------------------------------------------------------------------------
Net earnings (loss) 14,589 (840) (1,833) 6,683
-------------------------------------------------------------------------
Basic and diluted per share 0.07 (0.00) (0.01) 0.03
-------------------------------------------------------------------------
Property and equipment additions 64,006 55,852 115,984 80,403
-------------------------------------------------------------------------
Cash on hand 754 392,271 323,423 232,704
-------------------------------------------------------------------------
Working capital surplus
(deficiency) (19,853) 389,789 287,105 234,110
-------------------------------------------------------------------------
Debt 260,606 664,462 671,014 684,705
-------------------------------------------------------------------------
Shareholders' equity 428,764 480,439 471,559 479,477
-------------------------------------------------------------------------
Operating Highlights
-------------------------------------------------------------------------
Daily production/sales volumes
-------------------------------------------------------------------------
Natural gas - mcf/d 9,413 8,889 10,493 14,220
-------------------------------------------------------------------------
Bitumen - bbl/d(2) - - 1,773 6,123
-------------------------------------------------------------------------
Crude oil - bbl/d 781 752 996 981
-------------------------------------------------------------------------
Equivalent - boe/d(3) 2,350 2,233 4,518 9,474
-------------------------------------------------------------------------
Product pricing
-------------------------------------------------------------------------
Crude oil - $/bbl 55.98 56.79 79.50 105.28
-------------------------------------------------------------------------
Bitumen - $/bbl(2) - - 53.01 60.80
-------------------------------------------------------------------------
Natural gas - $/mcf 4.70 5.82 6.94 8.77
-------------------------------------------------------------------------
Selected Highlights - $/boe(3)
-------------------------------------------------------------------------
Weighted average sales price 37.43 42.29 54.46 63.37
-------------------------------------------------------------------------
Royalties 6.32 6.34 7.45 6.21
-------------------------------------------------------------------------
Operating costs 9.00 13.77 14.32 22.78
-------------------------------------------------------------------------
Netback(4) 22.11 22.18 32.69 34.38
-------------------------------------------------------------------------
Refining throughput
-------------------------------------------------------------------------
Crude charged (bbl/d) 9,400 9,610 9,830 9,329
-------------------------------------------------------------------------
Refining utilization (%) 100 101 104 98
-------------------------------------------------------------------------
Margins (%) 15 6 1 (0.1)
-------------------------------------------------------------------------
Common Share Information
-------------------------------------------------------------------------
Shares outstanding at end
of period (000) 199,447 209,971 210,277 211,027
-------------------------------------------------------------------------
Weighted average shares
outstanding for the period
-------------------------------------------------------------------------
Basic (000) 198,539 204,701 210,234 210,658
-------------------------------------------------------------------------
Diluted (000) 210,580 220,362 231,510 214,530
-------------------------------------------------------------------------
Volume traded during quarter
(000) 70,939 52,198 63,718 107,001
-------------------------------------------------------------------------
Common share price ($)
-------------------------------------------------------------------------
High 4.40 4.08 3.94 5.26
-------------------------------------------------------------------------
Low 3.20 3.31 2.59 3.10
-------------------------------------------------------------------------
Close (end of period) 4.01 3.79 3.13 4.30
-------------------------------------------------------------------------
(1) Cash flow and cash flow per share do not have standardized meanings
prescribed by Canadian generally accepted accounting principles
("GAAP") and therefore may not be comparable to similar measures used
by other companies. Cash flow is calculated before changes in non-
cash working capital, pension funding and asset retirement
expenditures. The most comparable measure calculated in accordance
with GAAP would be net earnings. Cash flow is reconciled with net
earnings on the Consolidated Statement of Cash Flows and in the
accompanying Management Discussion & Analysis. Management uses these
non-GAAP measurements for its own performance measures and to provide
its shareholders and investors with a measurement of the company's
efficiency and its ability to internally fund future growth
expenditures.
(2) The recognition of bitumen sales from Great Divide Pod One commenced
March 1, 2008, when it was declared 'commercial'. Prior thereto, all
operating costs, net of revenues, were capitalized.
(3) All references to barrels of oil equivalent (boe) are calculated on
the basis of 6 mcf : 1 bbl. Boes may be misleading, particularly if
used in isolation. This conversion is based on an energy equivalency
conversion method primarily applicable at the burner tip and does not
represent a value equivalency at the wellhead.
(4) Netback is a non-GAAP measure used by management as a measure of
operating efficiency and profitability. It is calculated as crude
oil, bitumen and natural gas revenue less royalties and operating
costs. Netbacks are reconciled to net earnings in the accompanying
MD&A.
Connacher Oil and Gas Limited
CONSOLIDATED BALANCE SHEETS
(Unaudited)
-------------------------------------------------------------------------
June 30, December 31,
($000) 2008 2007
-------------------------------------------------------------------------
ASSETS
CURRENT
Cash $200,316 $329,110
Restricted cash (Note 9(c)) 32,388 63,161
Accounts receivable 59,428 25,084
Inventories (Note 5) 37,541 18,379
Income taxes recoverable 4,600 4,279
-------------------------------------------------------------------------
Prepaid expenses 1,336 2,520
-------------------------------------------------------------------------
335,609 442,533
Property and equipment 849,771 671,422
Goodwill 103,676 103,676
Investment in Petrolifera 45,024 35,610
-------------------------------------------------------------------------
Deferred costs 4,625 5,587
-------------------------------------------------------------------------
$1,338,705 $1,258,828
-------------------------------------------------------------------------
LIABILITIES
CURRENT
Accounts payable and accrued liabilities $101,462 $52,744
Due to Petrolifera 37 -
-------------------------------------------------------------------------
101,499 52,744
Long term debt (Note 4(e)) 684,705 664,462
Future income taxes 48,438 36,818
Asset retirement obligations (Note 6) 24,357 24,365
-------------------------------------------------------------------------
Employee future benefits 229 -
-------------------------------------------------------------------------
859,228 778,389
-------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Share capital, contributed surplus and
equity component (Note 7) 435,194 444,086
Retained earnings 54,839 49,989
Accumulated other comprehensive loss (10,556) (13,636)
-------------------------------------------------------------------------
479,477 480,439
-------------------------------------------------------------------------
$1,338,705 $1,258,828
-------------------------------------------------------------------------
Connacher Oil and Gas Limited
CONSOLIDATED STATEMENTS OF OPERATIONS AND RETAINED EARNINGS (Unaudited)
-------------------------------------------------------------------------
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000, except per share amounts) 2008 2007 2008 2007
-------------------------------------------------------------------------
REVENUES
Upstream, net of royalties $83,483 $8,413 $111,409 $16,620
Downstream 117,820 84,628 189,719 142,224
Interest and other income 713 225 1,544 345
-------------------------------------------------------------------------
202,016 93,266 302,672 159,189
-------------------------------------------------------------------------
-------------------------------------------------------------------------
EXPENSES
Upstream - diluent purchases
and operating costs 50,909 2,660 64,901 4,592
Upstream transportation and
marketing costs 2,934 - 3,428 -
Downstream - crude oil purchases
and operating costs (Note 5) 117,926 66,480 189,319 112,878
General and administrative 2,911 1,663 5,977 5,248
Stock-based compensation
(Note 7(a)) 1,181 333 2,697 3,279
Finance charges 10,298 1,264 14,729 1,710
Foreign exchange loss (gain) 3,317 (14,486) 5,209 (16,188)
Depletion, depreciation and
accretion 13,825 7,363 21,289 14,721
-------------------------------------------------------------------------
203,301 65,277 307,549 126,240
-------------------------------------------------------------------------
Earnings (loss) before income
taxes and other items (1,285) 27,989 (4,877) 32,949
Current income tax provision 660 4,769 1,477 7,480
Future income tax provision
(recovery) 373 4,102 (1,790) 5,267
-------------------------------------------------------------------------
1,033 8,871 (313) 12,747
-------------------------------------------------------------------------
Earnings (loss) before other items (2,318) 19,118 (4,564) 20,202
Equity interest in Petrolifera
earnings 935 1,214 1,390 5,114
-------------------------------------------------------------------------
Dilution gain (Note 9(e)) 8,066 1,896 8,024 1,896
-------------------------------------------------------------------------
-------------------------------------------------------------------------
NET EARNINGS 6,683 22,228 4,850 27,212
-------------------------------------------------------------------------
-------------------------------------------------------------------------
RETAINED EARNINGS, BEGINNING
OF PERIOD 48,156 14,012 49,989 9,028
-------------------------------------------------------------------------
-------------------------------------------------------------------------
RETAINED EARNINGS, END OF PERIOD $54,839 $36,240 $54,839 $36,240
-------------------------------------------------------------------------
-------------------------------------------------------------------------
EARNINGS PER SHARE (Note 9 (a))
Basic $0.03 $0.11 $0.02 $0.14
Diluted $0.03 $0.11 $0.02 $0.14
-------------------------------------------------------------------------
Connacher Oil and Gas Limited
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
-------------------------------------------------------------------------
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000) 2008 2007 2008 2007
-------------------------------------------------------------------------
Net earnings $6,683 $22,228 $4,850 $27,212
Foreign currency translation
adjustment (429) (6,986) 3,080 (7,547)
-------------------------------------------------------------------------
Comprehensive income $6,254 $15,242 $7,930 $19,665
-------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF ACCUMULATED OTHER COMPREHENSIVE LOSS
(Unaudited)
-------------------------------------------------------------------------
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000) 2008 2007 2008 2007
-------------------------------------------------------------------------
Balance, beginning of period $(10,127) $(691) $(13,636) $(130)
Foreign currency translation
adjustment (429) (6,986) 3,080 (7,547)
-------------------------------------------------------------------------
Balance, end of period $(10,556) $(7,677) $(10,556) $(7,677)
-------------------------------------------------------------------------
Connacher Oil and Gas Limited
CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
-------------------------------------------------------------------------
Three months ended Six months ended
June 30 June 30
-------------------------------------------------------------------------
($000) 2008 2007 2008 2007
Cash provided by (used in) the
following activities:
OPERATING
Net earnings $6,683 $22,228 $4,850 $27,212
Items not involving cash:
Depletion, depreciation
and accretion 13,825 7,363 21,289 14,721
Stock-based compensation 1,181 333 2,697 3,279
Finance charges - non cash
portion 4,058 324 5,307 324
Employee future benefits 114 122 227 252
Future income tax provision
(recovery) 373 4,102 (1,790) 5,267
Foreign exchange loss (gain) 3,317 (14,486) 5,209 (16,188)
Equity interest in Petrolifera
earnings (935) (1,214) (1,390) (5,114)
-------------------------------------------------------------------------
Dilution gain (Note 9(e)) (8,066) (1,896) (8,024) (1,896)
-------------------------------------------------------------------------
Cash flow from operations
before working capital and
other changes 20,550 16,876 28,375 27,857
Asset retirement expenditures (83) - (206) -
Changes in non-cash working
capital (Note 9(b)) (12,863) (43,062) 8,907 (36,141)
-------------------------------------------------------------------------
7,604 (26,186) 37,076 (8,284)
-------------------------------------------------------------------------
FINANCING
Issue of common shares, net
of share issue costs (Note 7) 675 238 692 518
Increase in bank debt - 41,601 - 69,201
Repayment of bank debt - (72,996) - (81,996)
Issuance of convertible debenture,
net of issue costs - 96,066 - 96,066
Deferred financing costs 5 - (77) -
-------------------------------------------------------------------------
680 64,909 615 83,789
-------------------------------------------------------------------------
INVESTING
Acquisition and development
of oil and gas properties (73,139) (91,404) (187,194) (196,698)
Decrease in restricted cash 33,546 61,724 30,773 118,303
Exercise of Petrolifera warrants - (5,143) - (5,143)
Change in non-cash working
capital (Note 9(b)) (25,249) 21,649 (12,849) 14,544
-------------------------------------------------------------------------
(64,842) (13,174) (169,270) (68,994)
-------------------------------------------------------------------------
NET INCREASE (DECREASE) IN CASH (56,558) 25,549 (131,579) 6,511
Impact of foreign exchange on
foreign currency denominated
cash balances (615) (4,660) 2,785 (5,225)
CASH, BEGINNING OF PERIOD 257,489 - 329,110 19,603
-------------------------------------------------------------------------
CASH, END OF PERIOD $200,316 $20,889 $200,316 $20,889
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Supplementary information - Note 9
-------------------------------------------------------------------------
Connacher Oil and Gas Limited
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Period ended June 30, 2008
(Unaudited)
1. FINANCIAL STATEMENT PRESENTATION
The Consolidated Financial Statements include the accounts of Connacher
Oil and Gas Limited and its subsidiaries (collectively "Connacher" or the
"company") and are presented in accordance with Canadian generally
accepted accounting principles. Operating in Canada, and in the U.S.
through its subsidiary, Montana Refining Company, Inc. ("MRCI"), the
company is in the business of exploring, developing, producing, refining
and marketing crude oil, bitumen and natural gas.
2. SIGNIFICANT ACCOUNTING POLICIES
The interim Consolidated Financial Statements have been prepared
following the same accounting policies and methods of computation as
indicated in the annual audited Consolidated Financial Statements for the
year ended December 31, 2007, except as described in Note 3. The
disclosures provided below do not conform in all respects to those
included with the annual audited Consolidated Financial Statements. The
interim Consolidated Financial Statements should be read in conjunction
with the annual audited Consolidated Financial Statements and the notes
thereto for the year ended December 31, 2007.
3. NEW ACCOUNTING STANDARDS
Effective January 1, 2008, the company adopted new CICA Handbook, Section
3862, "Financial Instruments - Disclosures" and Section 3863, "Financial
Instruments - Presentation" which replaced former Section 3861. The new
standards require disclosure of the significance of financial instruments
to an entity's financial statements, the risks associated with the
financial instruments and how those risks are managed.
As of January 1, 2008, the company also adopted new CICA Handbook Section
1535, "Capital Disclosures" which requires entities to disclose their
objectives, policies and processes for managing capital and, in addition,
whether the entity has complied with any externally imposed capital
requirements.
In February 2008, the CICA issued Section 3064, "Goodwill and Intangible
Assets," replacing Section 3062, "Goodwill and Other Intangible Assets"
and Section 3450, "Research and Development Costs," applicable to
financial statements relating to fiscal years beginning on or after
October 1, 2008. The company will adopt the new standards for its fiscal
year beginning January 1, 2009. Section 3064 establishes standards for
the recognition, measurement, presentation and disclosure of goodwill
subsequent to its initial recognition and of intangible assets by profit-
oriented enterprises. Standards concerning goodwill are unchanged from
the standards included in the previous Section 3062, and therefore are
not anticipated to have a significant impact on the company's financial
statements.
Over the next three years the CICA will adopt its new strategic plan for
the direction of accounting standards in Canada, which was ratified in
January 2006. As part of the plan, Canadian GAAP for public companies
will converge with International Financial Reporting Standards ("IFRS"),
with an effective date of January 1, 2011. The company continues to
monitor and assess the impact of the convergence of Canadian GAAP and
IFRS.
4. FINANCIAL INSTRUMENTS AND CAPITAL RISK MANAGEMENT
The company is exposed to financial risks on a range of financial
instruments including its cash, accounts receivable and payable, amounts
due from/to Petrolifera, its Revolving Credit Facilities, the Convertible
Debentures, the Senior Notes, the cross currency swap and the natural gas
costless collar. The company is also exposed to risks in the way it
finances its capital requirements. The company manages these financial
and capital structure risks by operating in a manner that minimizes its
exposures to volatility of the company's financial performance. These
risks affecting the company are discussed below. No significant changes
have occurred in either the company's risk exposure or its risk
management strategy in the current period.
(a) Credit risk
Credit risk is the risk that a contracting entity will not fulfill its
obligations under a financial instrument and cause a financial loss to
the company. To help manage this risk, the company has a policy for
establishing credit limits, requiring collateral before extending credit
to customers where appropriate and monitoring outstanding accounts
receivable. The majority of the company's financial assets arise from the
sale of crude oil, bitumen, natural gas and refined products to a number
of large integrated oil companies and product retailers and are subject
to normal industry credit risks. The fair value of accounts receivable
and accounts payable are represented by their carrying values due to the
relatively short periods to maturity of these instruments. The maximum
exposure to credit risk is represented by the carrying amount on the
consolidated balance sheet. The company regularly assesses its financial
assets for impairment losses. There are no material financial assets that
the company considers past due or any allowances for uncollectible
accounts.
(b) Market risk
Market risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in market prices.
The company is exposed to market risk as a result of potential changes in
the market prices of its crude oil, bitumen, natural gas and refined
product sales volumes.
A portion of this risk is mitigated by Connacher's integrated business
model. The cost of purchasing natural gas for use in its oil sands and
refinery operations is offset by the company's monthly conventional
natural gas sales; and the selling price of the company's dilbit sales
largely equates to the purchase price of heavy crude oil required for
processing at its refinery. Petroleum commodity futures contracts, price
swaps and collars may be utilized to reduce exposure to price
fluctuations associated with the sales of additional natural gas and
crude oil sales volumes and for the sale of refined products.
As part of the company's risk management strategy, a natural gas costless
collar contract has been put in place effective for the period April 1 to
October 31, 2008. The collar has a floor price of US $7.50/mmbtu and a
ceiling price of US $10.05/mmbtu on a notional volume of 5,000 mmbtu per
day of natural gas sales. The intent of this natural gas pricing collar
was not to speculate on future natural gas prices, but rather to protect
the downside risk to the company's cash flow and the lending value of its
assets on a portion of natural gas sales volumes notionally in excess of
those required for consumption at Pod One. The risk in implementing the
collar is that future natural gas prices could escalate beyond the
ceiling price, limiting the company's natural gas revenue. As at June 30,
2008 the carrying value of this contract was adjusted to its calculated
fair value and resulted in a reduction of Upstream Revenues and an
accrued liability of $2.4 million. A $0.50 per mcf change in natural gas
prices would have resulted in an earnings impact of $8,000 for the three
months ended June 30, 2008 and $235,000 for the six months ended June 30
2008.
(c) Interest rate risk
Interest rate risk refers to the risk that the fair value or future cash
flows of a financial instrument will fluctuate because of changes in
market interest rates. The fair values of the company's cross-currency
and interest rate swaps are influenced by changes in interest rates. A
25 basis point change in interest rates would result in approximately a
$4.1 million change in the fair value of the company's cross-currency and
interest rate swaps for the three months ended June 30, 2008 and
$6 million for the six months ended June 30, 2008.
(d) Currency risk
Currency risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in foreign
exchange rates.
As Connacher incurs the majority of its expenditures in Canadian dollars,
it is exposed to the impact of fluctuations in the US/Canadian dollar
exchange rate on pricing of its sales of crude oil and bitumen (which are
generally priced by reference to US dollars but settled in Canadian
dollars) and for the translation of its US refining operating results and
its US dollar denominated Senior Notes to Canadian dollars for financial
statement reporting purposes.
In order to mitigate half of the foreign exchange exposure on the Senior
Notes, the company entered into a cross currency swap to fix one half of
the Senior Notes' principal and interest payments in Canadian dollars.
The swaps provide for a fixed payment of C$304.8 million in exchange for
receipt of US $300 million on December 15, 2015. The swaps also provide
for semi-annual interest payments commencing June 15, 2009 until
December 15, 2015 at a fixed rate of 10.795 percent based on a notional
C$304.8 million of debt in exchange for receipt of semi-annual interest
payments until December 15, 2015 at a fixed rate of 10.25 percent based
on a notional US $300 million of debt.
Relative to the company's crude oil and bitumen revenue receivables,
Senior Notes and currency swap, a $0.01 change in the Canadian dollar
exchange rate would have resulted in a $1.4 million change in net
earnings for the first six months of 2008 (three months ended June 30,
2008 - $900,000).
(e) Liquidity risk
Liquidity risk is the risk that the company will not have sufficient
funds to repay its debts and fulfill its financial obligations.
To manage this risk, the company follows a conservative financing
philosophy, pre-funds major development projects, monitors expenditures
against pre-approved budgets to control costs, regularly monitors its
operating cash flow, working capital and bank balances against its
business plan, maintains accessible revolving banking lines of credit and
maintains prudent insurance programs to minimize exposure to insurable
losses.
Additionally, the long term nature of the company's debt repayment
obligations is aligned to the long term nature of its assets. The
Convertible Debentures do not mature until June 30, 2012, unless
converted to common shares earlier, and principal repayments are not
required on the Senior Notes until their maturity date of December 15,
2015. This affords Connacher the opportunity to deploy its conventional,
oil sands, and refinery cash flow to fund the development of further
expansion projects over the next few years without having to make
principal payments or raise new capital unless expenditures exceed cash
flow and credit capacity.
The Revolving Credit Facilities (C $150 million and US $50 million)
provide liquidity as the company has the ability to draw on them when,
and if, necessary anytime over their five year term expiring in December
2012. As at June 30, 2008 they secure approximately $27 million of issued
letters of credit.
Substantially, all of the company's assets (except its investment in
Petrolifera) secure the Revolving Credit Facilities and Senior Notes.
The company is subject to financial covenants with respect to its
Revolving Credit Facilities. The financial covenants applicable to the
second quarter of 2008 are:
- Consolidated Total Debt to Total Capitalization Ratio shall not
exceed 65% at the end of the fiscal quarter. Consolidated Total Debt
includes all debt of the company except for the Convertible
Debentures. Total Capitalization is the sum of Consolidated Total
Debt, the principal amount of the Convertible Debentures and the book
value of Shareholders' Equity.
- Consolidated Senior Debt to EBITDA Ratio shall not exceed 3.5:1 at
the end of any fiscal quarter, as determined on a rolling four fiscal
quarter basis. Consolidated Senior Debt includes all borrowings under
the Revolving Credit Facilities. EBITDA is equal to Net Earnings plus
finance charges, taxes, depletion, depreciation, accretion, stock
based compensation expense and earnings of Petrolifera accounted for
on an equity basis, with further adjustment made for extraordinary
gains or losses and other non cash items added or deducted in
determining Net Earnings.
The company is in compliance with all of its financial covenants at
June 30, 2008.
The change in carrying value of long-term debt at June 30, 2008
($664 million) from December 31, 2007 ($643 million) is primarily due to
the change in the Canadian: US exchange rate in converting the US dollar-
denominated Senior Notes to Canadian dollars and accretion of the debt
discount of approximately $2.6 million.
At June 30, 2008 the fair values of the Convertible Debentures and Senior
Notes were $109.1 million and $643 million, respectively, based on their
quoted market prices. The fair value of the cross-currency and interest
rate swaps was a liability of $14.0 million, based on the present value
of future cash flows.
The company's term debt is repayable as follows:
- Convertible Debentures - June 30, 2012 in the amount of $100,050,000,
unless converted into common shares prior thereto; and
- Senior Notes - December 15, 2015 in the amount of US$600 million.
Connacher's investment in Petrolifera also provides liquidity. Trading on
the TSX, Connacher's 13.1 million shares held in Petrolifera are readily
marketable as they have not been collateralized. Although it is not
Connacher's intention to sell these shares in the foreseeable future, the
shareholding provides Connacher an additional margin of financial safety.
(f) Capital risks
Connacher's objectives in managing its cash, debt and equity ("capital"),
its capital structure and its future capital requirements are to
safeguard its ability to meet its financial obligations, to maintain a
flexible capital structure that allows multiple financing options when a
financing need arises and to optimize its use of short-term and long-term
debt and equity at an appropriate level of risk.
The company manages its capital structure and follows a financial
strategy that considers economic/industry conditions, the risk
characteristics of its underlying assets and its growth opportunities. It
strives to continuously improve its credit rating and reduce its cost of
capital. Connacher monitors its capital using a number of financial
ratios and industry metrics to ensure its objectives are being met and to
ensure continued compliance with its debt covenants.
Connacher's current capital structure and certain financial ratios are
noted below.
As at As at
June 30, December 31,
2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Long term debt(1) $684,705 $664,462
Shareholders' equity
Share capital, contributed surplus and
equity component 435,194 444,086
Accumulated other comprehensive loss (10,556) (13,636)
Retained earnings 54,839 49,989
-------------------------------------------------------------------------
Total $1,164,182 $1,144,901
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Debt to book capitalization(2) 59% 58%
Debt to market capitalization(3) 42% 44%
-------------------------------------------------------------------------
(1) Long-term debt is stated at its carrying value, which is net of fair
value adjustments, original issue discounts, transaction costs and
the Convertible Debentures' equity component value.
(2) Calculated as long-term debt divided by the book value of
shareholders' equity plus long-term debt.
(3) Calculated as long-term debt divided by the period end market value
of shareholders' equity plus long-term debt.
Connacher currently has a high ratio of debt to capitalization, and its
debt service costs are high relative to cash flow. This is due to pre-
funding the full cost of Algar, the company's second oil sands project,
in December 2007, by issuing US$600 million of Senior Notes. As at
June 30, 2008, the company's net debt (long-term debt, net of cash on
hand) was $452 million and its net debt to book capitalization was
39 percent and its net debt to market capitalization was 28 percent.
5. INVENTORIES
Inventories consist of the following:
-------------------------------------------------------------------------
June 30, December 31,
($000) 2008 2007
-------------------------------------------------------------------------
Crude oil $7,803 $2,258
Other raw materials and unfinished products(1) 2,988 1,501
Refined products(2) 22,660 11,183
Process chemicals(3) 1,004 1,036
Repairs and maintenance supplies and other(4) 3,086 2,401
-------------------------------------------------------------------------
$37,541 $18,379
-------------------------------------------------------------------------
(1) Other raw materials and unfinished products include feedstocks and
blendstocks, other than crude oil. The inventory carrying value
includes the costs of the raw materials and transportation.
(2) Refined products include gasoline, jet fuels, diesels, asphalts,
liquid petroleum gases and residual fuels. The inventory carrying
value includes the cost of raw materials, transportation and direct
production costs.
(3) Process chemicals include catalysts, additives and other chemicals.
The inventory carrying value includes the cost of the purchased
chemicals and related freight.
(4) Repair and maintenance supplies in crude refining and oil sands
supplies.
In accordance with the company's accounting policies, inventories are
valued at the lower of cost and net realizable value. At each of
December 31, 2007, March 31, 2008 and June 30, 2008 net realizable value
was used to value asphalt inventories. At June 30, 2008, net realizable
value was lower than cost by $1.1 million; December 31, 2007 -
$2.5 million. At June 30, 2008 the net realizable value of asphalt was
higher than it was at December 31, 2007, due to seasonal influences on
asphalt selling prices.
Included in downstream crude oil purchases and operating costs for the
six months ended June 30, 2008 was approximately $174 million of
inventory costs (six months ended June 30, 2007 - $99 million; three
months ended June 30, 2008 - $110 million; three months ended June 30,
2007 - $60 million).
6. ASSET RETIREMENT OBLIGATIONS
The following table reconciles the beginning and ending aggregate
carrying amount of the obligation associated with the company's
retirement of its oil sands and conventional petroleum and natural gas
properties and facilities.
-------------------------------------------------------------------------
Six months
ended Year ended
June 30, December 31,
($000) 2008 2007
-------------------------------------------------------------------------
Asset retirement obligations, beginning of period $24,365 $7,322
Liabilities incurred 561 8,277
Liabilities settled (206) (311)
Change in estimated future cash flows (1,208) 7,503
Accretion expense 845 1,574
-------------------------------------------------------------------------
Asset retirement obligations, end of period $24,357 $24,365
-------------------------------------------------------------------------
Liabilities incurred in 2008 have been estimated using a discount rate of
10 percent reflecting the company's credit-adjusted risk free interest
rate given its current capital structure and an inflation rate of two
percent. The company has not recorded an asset retirement obligation for
the Montana refinery as it is currently the company's intent to maintain
and upgrade the refinery so that it will be operational for the
foreseeable future. Consequently, it is not possible at the present time
to estimate a date or range of dates for settlement of any asset
retirement obligation related to the refinery.
7. SHARE CAPITAL AND CONTRIBUTED SURPLUS
Authorized
The authorized share capital comprises the following:
- Unlimited number of common voting shares
- Unlimited number of first preferred shares
- Unlimited number of second preferred shares
Issued
Only common shares have been issued by the company.
-------------------------------------------------------------------------
Number of Amount
Shares ($000)
-------------------------------------------------------------------------
Balance, Share Capital, December 31, 2007 209,971,257 $406,881
Issued upon exercise of options in 2008 (a) 946,934 770
Issued to directors under share award plan (b) 108,975 381
Assigned value of options exercised in 2008 205
Share issue costs, net of income taxes (78)
Tax effect of expenditures renounced pursuant
to the issuance of flow through common
shares in 2007 (c) (13,250)
-------------------------------------------------------------------------
Balance, Share Capital, June 30, 2008 211,027,166 $394,909
-------------------------------------------------------------------------
Balance, Contributed Surplus,
December 31, 2007 $20,382
Stock based compensation for share options
expensed in 2008 3,285
Assigned value of options exercised in 2008 (205)
-------------------------------------------------------------------------
Balance, Contributed Surplus, June 30, 2008 $23,462
-------------------------------------------------------------------------
Equity component of Convertible Debentures,
December 31, 2007 and June 30, 2008 $16,823
Total Share Capital, Contributed
Surplus and Equity Component
-------------------------------------------------------------------------
December 31, 2007 $444,086
-------------------------------------------------------------------------
June 30, 2008 $435,194
-------------------------------------------------------------------------
(a) Stock Options
A summary of the company's outstanding stock options, as at June 30, 2008
and 2007 and changes during those periods is presented below:
-------------------------------------------------------------------------
For the six months
ended June 30 2008 2007
-------------------------------------------------------------------------
Weighted Weighted
Average Average
Number of Exercise Number of Exercise
Options Price Options Price
-------------------------------------------------------------------------
Outstanding, beginning
of period 17,432,717 $3.60 16,212,490 $3.31
Granted 2,743,792 $3.22 3,349,597 3.86
Exercised (946,934) $0.81 (830,933) (0.70)
Expired (155,782) $3.85 (982,000) (3.60)
-------------------------------------------------------------------------
Outstanding,
end of period 19,073,793 $3.68 17,749,154 $3.52
-------------------------------------------------------------------------
Exercisable,
end of period 13,254,013 $3.70 9,693,064 $3.10
-------------------------------------------------------------------------
All stock options have been granted for a period of five years. Options
granted under the plan are generally fully exercisable after either two
or three years. The table below summarizes unexercised stock options.
-------------------------------------------------------------------------
Weighted
Average
Remaining
Range of Exercise Prices Contractual
Life at
Number June 30,
Outstanding 2008
-------------------------------------------------------------------------
$0.20 - $0.99 1,137,034 1.5
$1.00 - $1.99 1,575,000 1.9
$2.00 - $3.99 8,960,071 3.7
$4.00 - $5.56 7,401,688 2.9
-------------------------------------------------------------------------
19,073,793 3.1
-------------------------------------------------------------------------
In the second quarter of 2008 a non-cash charge of $1.2 million (2007 -
$333,000) was expensed, reflecting the fair value of stock options
amortized over the vesting period and the fair value of shares granted to
directors. A further $224,000 (2007 - $542,000) was capitalized to
property and equipment.
During the first half of 2008 a non-cash charge of $2.7 million (2007 -
$3.3 million) was expensed, reflecting the fair value of stock options
amortized over the vesting period. A further $1 million (2007 -
$1.1 million) was capitalized to property and equipment.
The fair value of each stock option granted is estimated on the date of
grant using the Black-Scholes option-pricing model with weighted average
assumptions for grants as follows:
-------------------------------------------------------------------------
For the six months ended June 30 2008 2007
-------------------------------------------------------------------------
Risk free interest rate 3.1% 4.5%
Expected option life (years) 3 3
Expected volatility 48% 52%
-------------------------------------------------------------------------
The weighted average fair value at the date of grant of all options
granted in the first six months of 2008 was $1.14 per option (2007 -
$1.52) and for the three months ended June 30, 2008 was $1.40 per option
(2007 - $1.45).
(b) Share award plan for non-employee directors
On January 16, 2008, 108,975 shares were issued to non-employee directors
under the share award plan, settling the accrued liability of $381,000
relating to this award.
On March 25, 2008 an additional 283,730 shares were awarded to non-
employee directors over a future vesting period. A total of 392,705 share
awards were outstanding at June 30, 2008 and vest on the following dates:
-------------------------------------------------------------------------
December 31, 2008 5,210
January 1, 2009 108,975
December 31, 2009 5,210
January 1, 2010 136,655
January 1, 2011 136,655
-------------------------------------------------------------------------
392,705
-------------------------------------------------------------------------
In the first six months of 2008, a non-cash charge of $433,000 (2007 -
$393,000), three months ended June 30, 2008 - $388,000 (2007 - $393,000)
was accrued as a liability and expensed in respect of shares yet to be
issued under the share award plan.
(c) Flow through shares
Effective December 31, 2007, the company renounced $52.25 million of
resource expenditures to flow-through share investors. The related tax
effect of $13.25 million of these expenditures was recorded in 2008. The
company has incurred all of the required expenditures related to these
flow-through shares in 2007 and 2008.
8. SEGMENTED INFORMATION
The company has changed its segmentation in 2008 to better reflect the
organization of its business by combining the former Canadian
administrative segment with the Canadian oil and gas segment. In Canada,
the company is in the business of exploring for and producing crude oil,
natural gas and bitumen. In the U.S., the company is in the business of
refining and marketing petroleum products. The significant aspects of
these operating segments are presented below. Comparative figures have
been reclassified.
Three months ended June 30 Canada USA
($000) Oil and Gas Refining Total
-------------------------------------------------------------------------
2008
Revenues, net of royalties $83,483 $117,820 $201,303
Equity interest in Petrolifera
earnings 935 - 935
Dilution gain 8,066 - 8,066
Interest and other income 605 108 713
Finance charges 10,199 99 10,298
Depletion, depreciation
and accretion 12,429 1,396 13,825
Tax provision (recovery) 2,532 (1,499) 1,033
Net earnings (loss) 9,230 (2,547) 6,683
Property and equipment, net 788,042 61,729 849,771
Goodwill 103,676 - 103,676
Capital expenditures 75,475 4,928 80,403
Total assets $1,183,469 $155,236 $1,338,705
-------------------------------------------------------------------------
2007
Revenues, net of royalties $8,413 $84,628 $93,041
Equity interest in Petrolifera
earnings 1,214 - 1,214
Dilution gain 1,896 - 1,896
Interest and other income 111 114 225
Finance charges 1,264 - 1,264
Depletion, depreciation
and accretion 5,891 1,472 7,363
Tax provision 3,197 5,674 8,871
Net earnings 11,112 11,116 22,228
Property and equipment, net 520,372 49,160 569,532
Capital expenditures 90,496 2,727 93,223
Total assets $705,228 $116,699 $821,927
-------------------------------------------------------------------------
Six months ended June 30 Canada USA
($000) Oil and Gas Refining Total
-------------------------------------------------------------------------
2008
Revenues, net of royalties $111,409 $189,719 $301,128
Equity interest in Petrolifera
earnings 1,390 - 1,390
Dilution gain 8,024 - 8,024
Interest and other income 1,311 233 1,544
Finance charges 14,571 158 14,729
Depletion, depreciation
and accretion 18,645 2,644 21,289
Tax provision (recovery) 1,830 (2,143) (313)
Net earnings (loss) 7,361 (2,511) 4,850
Property and equipment, net 788,042 61,729 849,771
Goodwill 103,676 - 103,676
Capital expenditures 188,432 7,956 196,388
Total assets $1,183,469 $155,236 $1,338,705
-------------------------------------------------------------------------
2007
Revenues, net of royalties $16,620 $142,224 $158,844
Equity interest in Petrolifera
earnings 5,114 - 5,114
Dilution gain 1,896 - 1,896
Interest and other income 124 221 345
Finance charges 1,710 - 1,710
Depletion, depreciation
and accretion 11,992 2,729 14,721
Tax provision 3,419 9,328 12,747
Net earnings 9,702 17,510 27,212
Property and equipment, net 520,372 49,160 569,532
Capital expenditures 197,260 5,844 203,104
Total assets $705,228 $116,699 $821,927
-------------------------------------------------------------------------
9. SUPPLEMENTARY INFORMATION
(a) Per share amounts
The following table summarizes the common shares used in earnings per
share calculations.
For the three months ended June 30 (000) 2008 2007
-------------------------------------------------------------------------
Weighted average common shares outstanding 210,658 198,360
Dilutive effect of stock options and share
units outstanding 3,872 10,728
-------------------------------------------------------------------------
Weighted average common shares outstanding
- diluted 214,530 209,088
-------------------------------------------------------------------------
For the six months ended June 30 (000) 2007
-------------------------------------------------------------------------
Weighted average common shares outstanding 210,446 198,240
Dilutive effect of stock options and share
units outstanding 2,878 6,522
-------------------------------------------------------------------------
Weighted average common shares outstanding
- diluted 213,324 204,762
-------------------------------------------------------------------------
(b) Net change in non-cash working capital
For the three months ended June 30
-------------------------------------------------------------------------
($000) 2008 2007
-------------------------------------------------------------------------
Accounts receivable $(6,847) $(12,350)
Inventories 492 1,819
Due from Petrolifera 44 (38)
Prepaid expenses 192 (1,012)
Accounts payable and accrued liabilities (32,260) (2,753)
Income taxes payable/recoverable 267 (7,079)
-------------------------------------------------------------------------
Total $(38,112) $(21,413)
-------------------------------------------------------------------------
Summary of working capital changes:
-------------------------------------------------------------------------
($000) 2008 2007
-------------------------------------------------------------------------
Operations $(12,863) $(43,062)
Investing (25,249) 21,649
-------------------------------------------------------------------------
$(38,112) $(21,413)
-------------------------------------------------------------------------
For the six months ended June 30 2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Accounts receivable $(34,344) $(12,532)
Due from Petrolifera 37 73
Prepaid expenses 1,184 (646)
Refinery inventories (19,162) (12,738)
Accounts payable and accrued liabilities 48,664 11,832
Income taxes payable/recoverable (321) (7,586)
-------------------------------------------------------------------------
Total $(3,942) $(21,597)
-------------------------------------------------------------------------
For the six months ended June 30 2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Operations $8,907 $(36,141)
Investing (12,849) 14,544
-------------------------------------------------------------------------
$(3,942) $(21,597)
-------------------------------------------------------------------------
(c) Supplementary cash flow information
-------------------------------------------------------------------------
For the three months ended June 30 2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Interest paid $34,953 $4,152
Income taxes paid 245 6,107
Stock-based compensation capitalized $224 $542
-------------------------------------------------------------------------
For the six months ended June 30 2008 2007
-------------------------------------------------------------------------
($000)
-------------------------------------------------------------------------
Interest paid $35,336 $7,599
Income taxes paid 1,372 9,146
Stock-based compensation capitalized $1,022 $1,088
-------------------------------------------------------------------------
At June 30, 2008 cash of $32.4 million (December 31, 2007 -
$63.2 million) was restricted to fund the first year of interest payments
on the Senior Notes.
(d) Defined benefit pension plan
In the first six months of 2008, $227,000 (2007 - $252,000) three months
ended June 30, 2008 - $114,000 (2007 - $122,000) has been charged to
expense in relation to MRCI's defined benefit pension plan.
(e) Dilution gain
In May 2007, Connacher exercised warrants to purchase 1.7 million
additional common shares in Petrolifera for total consideration of
$5.1 million. As a result, the company maintained its 26 percent equity
interest, as other Petrolifera shareholders similarly exercised their
warrants on identical terms. As a consequence, Connacher booked a
dilution gain of $1.9 million.
In June 2008, Petrolifera issued an additional 4.4 million common shares
to raise $40 million. Connacher did not subscribe for any of these
shares. Consequently, Connacher's equity interest in Petrolifera was
reduced from 26 percent to 24 percent. However, the financing resulted in
a dilution gain of $8 million which was recognized by Connacher in the
second quarter of 2008.
10. RELATED PARTY TRANSACTIONS
A portion of the company's conventional crude oil and natural gas
exploration and drilling activities completed in the first half of 2008,
and which activities will continue in the future, was conducted with a
joint venture partner - a company - an officer of which is also a
director of Connacher. Transactions with the related party occurred
within the normal course of business and have been measured at their
exchange amount on normal business terms. The exchange amount is the
amount of consideration established and agreed to by the related party.
These capital expenditures incurred to date are not considered material
to the company's overall capital expenditure program.
For further information:
For further information: Richard A. Gusella, President and Chief Executive Officer; OR Grant D. Ukrainetz, Vice President, Corporate Development, Phone: (403) 538-6201, Fax: (403) 538-6225, inquiries@connacheroil.com, Website: www.connacheroil.com