California Resources - Q2 2023

Transcript

Operator (participant)

Please note, this event is being recorded. I would now like to turn the conference over to Joanna Park, Vice President of Investor Relations and Treasurer. Please go ahead.

Joanna Park (VP of Investor Relations and Treasurer)

Welcome to the California Resources Corporation Second Quarter 2023 conference call. Participating on today's call are Francisco Leon, President and Chief Executive Officer, Nelly Molina, Executive Vice President and Chief Financial Officer, as well as CRC's entire executive team. I'd like to highlight that we have provided slides in the Investor Relations section of our website, crc.com. These slides provide additional information on our operations and our second quarter results. We've also provided information reconciling non-GAAP financial measures discussed to the most directly comparable GAAP financial measures on our website, as well as in our earnings press release. Today, we are making some forward-looking statements based on current expectations. Actual results could differ due to factors described in our earnings release and in our periodic SEC filings.

As a reminder, we have allotted additional time for Q&A at the end of our prepared remarks, and we ask that participants limit their questions to a primary and one follow-up. With that, I will now turn the call over to Francisco.

Francisco Leon (President and CEO)

Thank you, Joanna. At CRC, our strengths are clear: cash flow, carbon, and California. First, our cash flow strength comes from our high quality, low decline assets. These assets provide a large production base with predictable cash flows from our long-lived reserves. Further, we produce some of the lowest carbon intensity oil and natural gas in the U.S., which we sell into markets that have access to premium pricing and advantage realizations as compared to the rest of the U.S. Our second strength is our carbon storage platform, Carbon TerraVault, which benefits from an early mover advantage for CCS. CRC's large mineral and surface acreage position, plus the quality of our geological reservoirs, our extensive subsurface knowledge, and joint venture with Brookfield, continue to provide us with a competitive advantage. Carbon TerraVault leads the nation in permit applications submitted to the EPA.

Additionally, our CCS storage potential continues to attract significant interest from current and future emitters. To date, we have executed five Carbon Dioxide Management Agreements, or CDMAs, for a combined injection rate of 815,000 metric tons per year, which represents reservations of 16% of our pore space and good progress towards our target of 5 million tons per year of injection by year-end 2027. Our third strength is California. California's energy industry offers attractive market with high barriers to entry. The state is the fifth largest economy in the world, with energy needs that far surpass local production. At CRC, we proudly operate under the highest environmental standards in the world, and our long track record of safe operation demonstrates our ability to navigate California's regulatory landscape. California also has ambitious decarbonization goals and the right incentives to drive emission reductions throughout the state.

CRC is well positioned to help advance the state's energy transition and be a solutions provider to the state. From an operational perspective, we continue to make great progress on our business transformation efforts and are now targeting $50 million or more in annualized run rate savings. The goal of our transformation is to recalibrate our approach to reflect our current and future needs and improve our cost structure. We're evaluating all aspects of the business, looking for operational optimizations, organizational improvements, and new technologies to drive costs out of the system. Initial actions have focused on our key business processes around well services, chemical programs, and our warehousing model. We also see opportunities for improvement in how we utilize our contractors and rental equipment in the field locations.

By aligning our practices and our operations to the current business environment and our long-term strategy, we can execute on our strategy to maximize cash flows and further enhance shareholder returns. Note that savings from these initiatives are not included in the 2023 guidance we provided today, but are targeted to be in place before year-end and reflected in 2024 results. In the second quarter of 2023, we produced 86,000 BOE per day, operating one rig in Long Beach and 35 workover rigs. A combination of strong demand and favorable pricing underpinned $69 million of free cash flow generated in the quarter and brings our year-to-date total free cash flow to $332 million. During the quarter, we repurchased $64 million of our common shares and paid $20 million to our shareholders in dividends.

This represents 122% of our free cash flow return to shareholders in the second quarter. Since May 2021, CRC has returned nearly $700 million to our shareholders, or nearly 20% of our current market cap. Our reservoirs continue to perform in line with expectations. Our stable performance is best observed from our gross production results, which excludes variations from our production sharing contracts in Long Beach and NGL storage levels. Our flat QoQ gross production demonstrates the productivity of our stack pay and efficacy of our downhole maintenance program. As a reminder, we continue to see the lace in new drill permit approvals, but continue to receive permits from CalGEM for workovers, deepenings, and sidetracks. Despite a lack of new drilling permits, we remain on track to deliver 5%-7% entry to exit production decline.

Our 2023 development plan is focused on permits in hand, and our high return recompletion and workover activity highlights CRC's ability to manage reservoirs and maintain capital efficiency even at lower activity levels. On a net production basis, oil came at the midpoint of our guidance range, while total production ended up on the lower end due to storing of NGLs. We typically store NGL volumes produced during the second quarter to sell in higher demand periods, maximizing our cash flows. On the power side, our 550 MW power plant provides us with the ability to manage field level power costs at Elk Hills and surrounding fields, as well as to optimize between taking incremental volumes of natural gas to market or converting the same natural gas to power for delivery into the CAISO wholesale power mark.

Our natural gas and marketing activities once again, had a very strong quarter. As city gate gas prices held up much better than field level prices, our natural gas and marketing activities once again, had a very strong quarter. The team was able to double quarterly margin results versus guidance expectations by taking advantage of the transportation and delivery resources we maintain. Looking ahead on natural gas marketing margins should moderate in the second half of 2023, as California's natural gas inventories return to more seasonal levels, and the abundance of hydro generation capacity competes with natural gas fire generation this summer and fall. Moving to carbon management. During the quarter, we executed our fifth CDMA with Verde Clean Fuels for our renewable gasoline project. This project further confirms our economic type curve of $50-$75 of EBITDA per metric ton for a storage-only project.

We also expanded our capacity reserve for Lone Cypress for their previously announced blue hydrogen project. Anticipated CO₂ injection has now more than doubled from 100,000-205,000 metric tons per year for the project. These facilities, in addition to our agreement signed with InEnTec earlier this year, are planned to be located at our net zero industrial park at Elk Hills, which provides a unique benefit of offering surface acres for build-out, midstream and co-location with permanent CO₂ storage. Post quarter end, we submitted another Class VI permit application for CTV V, continuing our pole position for storage permit submissions in the queue with the EPA. The permit application has a capacity of 70 million metric tons of CO₂ storage, bringing CTV's cumulative potential storage capacity on their permit applications to 191 million metric tons.

We continue to target a draft Class VI permit from the EPA by year-end. The recent EPA draft permit approval for our project in Indiana is encouraging for the CCS industry and provides yet another data point of EPA support for the technology in progress. We remain optimistic and continue to see positive traction from our conversations with potential emission sources as well as various other stakeholders. Lastly, we continue to evaluate the separation of our carbon management business. Carbon TerraVault continues to make strong progress each quarter. However, we're still in the early stages. We continue to look for certain important milestones such as permit approval, project FID, and line of sight to first CO₂ injection and cash flows before considering a potential separation. Now I'll pass it over to Nelly to provide an update on CRC's financial position and outlook.

Nelly Molina (EVP and CFO)

Thank you, Francisco, and welcome again, everyone. Our balance sheet remains in solid condition. During the quarter, we expanded our net RBL commitments by $25 million, bringing our total commitments to $627 million. We ended the quarter with $927 million of liquidity, which includes $448 million in cash. Our net leverage position reflects a very modest 0.2 times of leverage, while our fixed charge coverage exceeds 17 times. Given the cyclical nature of the commodity prices, keeping our financial strength is a key pillar of our strategy. Looking forward, we are maintaining our full year production guidance. As Francisco mentioned before, our reservoirs are performing in line with our expectations, which are informed by decades of operating history.

We anticipate modest declines in the second half of the year, in line with our previously disclosed range of 5%-7% annual decline. Regarding our capital program, we take a dynamic approach in response to commodity price volatility and focus our activity on maintaining oil production and maximizing our free cash flow. We reaffirm our 2023 capital program to range between $200 million-$245 million under current conditions, with a heavier weighting in the second half of the year due to timing of projects and higher expected workover activity. Oil and natural gas developments will continue to be focused, mainly on executing projects using existing permits. While commodity prices remained at healthy levels, the forward strip softened during the second quarter.

Our updated guidance reflects our strong natural gas marketing activities to date, as well as our outlook for commodity price differentials. The NGL markets reflect seasonal quarterly pricing trends and the global oversupply market environment. On the natural gas side, our guidance reflects the unprecedented price spikes registered in the first quarter on the full year average, also the return to normalized levels in the second half of 2023. As a result, we are lowering the top end of the range of our 2023 operating cost guidance by $15 million, due to lower energy-related operating expenses expected in the second half of the year. Additionally, we are narrowing the range of our free cash flow guidance for the year to $380 million-$460 million.

Let me remind you that our 2023 guidance is based on an estimated Brent price of $77.54 per barrel, and $2.87 per Mcf NYMEX price. Our key financial priorities in the second half of the year are the execution of our business transformation initiative to reduce our expected 2024 cost run rate in $50 million or more, and being responsible stewardship of the best uses of our balance. With that, I will turn it back to Francisco.

Francisco Leon (President and CEO)

Thank you, Nelly. CRC's unique value proposition is founded on our disciplined capital allocation, solid balance sheet, and free cash flow generation capability. CRC's continued progress at Carbon TerraVault provides shareholders a way to participate in CCS, and California is a path towards a decarbonized future. To summarize, CRC's strengths are cash flow, carbon, and California. Thank you for joining us on the call today. We'll now open the line for questions. Operator?

Operator (participant)

We will now begin the Q&A session. To ask a question, you may press star, then one on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then two. Please limit yourself to one primary and a follow-up. At this time, we will pause momentarily to assemble our roster. The first question comes from Scott Hanold with RBC Capital Markets. Please go ahead.

Scott Hanold (Managing Director and Senior Energy Analyst)

Hey, thanks. You know, for my first question, I was wondering, you know, if you all could provide an update on the Class VI permit process with respect to the Indiana permit that you, you'd, you know, indicated. If you could compare and contrast, like, any kind of differences or the timeframe that, you know, they had to go through in Indiana to get theirs and versus what you all are doing there. If you can just kind of compare and contrast and if there are any differences between those. Just trying to get a sense of your confidence in that year-end target for receiving the draft permit?

Francisco Leon (President and CEO)

Hey, Scott. How's it going? Yeah, we're, we're still targeting the draft permit for CTV before year-end 2023. Big catalyst for, for CTV, big catalyst for California in general. We're engaging with the EPA regularly and hope we are the first in California. We are dealing with a different part of the EPA. We're dealing with Region 9. We, we talked to both Region 9 and headquarters, we don't have a lot of visibility into the tune to the permit in Indiana. Best we can tell is that they, they filed before we did, a little bit longer timeline for them, hard to say really from, from, from where we stand as to how good the, the permit application was and ultimately the steps that they took to get there.

I won't comment on that permit. Just feel like we made a lot of good progress on the technical discussions with the EPA, still feel very much in target to get the draft permit this year.

Scott Hanold (Managing Director and Senior Energy Analyst)

Got it. When you refer to the technical progress, you, you're just talking about, like, just the suitability of the reservoir and, and everything like that. Is that, is that fair?

Francisco Leon (President and CEO)

That's fair. I mean, there's, there's financial assurances, there's community support. There's a number of, there's a number of things that the EPA is going through as they make decision on permits, and I feel that Chris Gould and the team have done an exceptional job getting us prepared. Ultimately, you know, we were waiting for that final, final sign-off that we, we have the draft permit, and the thing, Not only CRC, but the rest of the CCS space, is eagerly waiting for the EPA to move on more permits.

Scott Hanold (Managing Director and Senior Energy Analyst)

Okay. For my next question, I'm gonna, I'm gonna sort of keep on the same, you know, kind of line of questioning. The, the, the community support, you know, aspect, you know, obviously I think is gonna be a, you know, a big, you know, big, you know, kind of, you know, lifting effort too, especially being in California. Can you give a sense of, like, what you as CRC are doing specifically to, to, you know, get the community support and, and help get that through? Because I do think there's that, that comment period after you receive the draft, correct?

Francisco Leon (President and CEO)

Yeah, that's correct. After the draft permit gets granted, there's a period of time for public comments, and then a final permit gets granted after those are incorporated. We're working, our team is working diligently in parallel to get the public comment discussion on their way in getting the support from the communities. You know, as our first project, it's critical that the first project is successful for all the stakeholders. We're in Kern County, we're also at Elk Hills, at a field that we own 100% fee simple, remote from, from, any neighborhood, any areas of concern from the public. This is the right place to have our first project in California, and we're the right counterparty to be leading it.

We see as we spend time with community leaders and, and we do community plans, we feel there's a support is there. Again, to, to us, it's not a, a, a sequential process. We very much got started already and feel the support's gonna be there. We're also working with Kern County and, and the Kern County Planning Commission to look at the permits that are required at a local level, so that we're good to go once the, once the EPA gives us a sign-off. A lot of things in motion, but we are progressing on, in every respect, and look forward to, to getting started.

Scott Hanold (Managing Director and Senior Energy Analyst)

Appreciate it. Thank you.

Operator (participant)

The next question comes from Kalei Akamine with Bank of America. Please go ahead.

Kalei Akamine (Senior Equity Research Analyst)

Hey, good morning, guys. Thanks for taking my question. In my first question, I just want to hit on production. Coming into this year, I think we were expecting to see high single-digit declines by year-end because of the constraints that you're seeing on the Kern County permitting process. I'm hoping that you can help us understand what the drivers are to the better production performance that you're seeing. Is it better new well performance? Is it some kind of tailwind from prior years? Or is it the underlying base? And really, the nub of my question is trying to understand what the unmitigated decline of the portfolio is.

Francisco Leon (President and CEO)

Hey, Kalei. Good, good talking to you. I think you, you summarized in your question that the answer really well. QoQ, if you look at gross production, and, and that's ultimately the best way to judge the performance of the reservoir, so you don't have... Like, we had some NGL storage noise in the quarter, and, and you always have the production sharing contract, but the way you look at the reservoir is to go to gross production, and we're, we're flat QoQ. It is a, you know, tailwind. We had three rigs when we started the year, there's some benefit from performance of those wells. Our current development plan, which is focused on the Wilmington field in Long Beach, it's performing extremely well, kind of with wells above type curve.

That helps as well. But at the end of the day, it's the quality of the underlying asset, right? The PDP of our base has a naturally very shallow decline, and as we're able to move OpEx dollars through downhole maintenance, and as we're able to do capital workovers, we're able to mitigate that base decline over time. It's a low decline to start with, all the activities having the effect that we would want. We still think the, you know, at the end of the day, what starts fading out is some of the support from the initial activity in the year. We do see a 5%-7% entry to exit decline. I feel pretty good about that number if you look from January to December.

We're happy with the results in, in the performance of the base and, and, the way it's the production has responded, year to date.

Kalei Akamine (Senior Equity Research Analyst)

Awesome. I appreciate that color, Francisco. My second question goes to the carbon management business. I understand that there's some legislation that's in the works that's going to help define the state regulations on the CO₂ pipelines, and I think that's now expected in 2024. I'm trying to understand what the impact they may have on perhaps the third parties that are situated around you, that are considering capture projects, because at the moment, the majority of your offtake is with new build plants to be located on your own property, where those regulations maybe aren't as meaningful.

Francisco Leon (President and CEO)

Yeah. There's a lot of work happening in California to get the to get some pipeline regulation and the framework on their way. We, we see significant support among legislators for CCS, and there's a lot of discussion happening on on effectively what's a trailer bill to Senate Bill 905 to get that, that framework put in place. The session's still open, so I, I wouldn't say that it's it's happening next year versus this year. We, we do see progress, we do see conversations happening, so I wouldn't, I wouldn't, I wouldn't, I wouldn't put a timeline to it until we have an ability to see how the session finishes. That is an important piece of legislation that needs to come out.

If you think about, okay, why are we at five greenfields and still not at any of the legacy brownfield projects, it's really two things. One is the price discovery, negotiations on the split of the economics, which is a normal commercial discussion between parties. Ultimately, we have an existing emission source, and you have a permitted sink, which we're gonna have in multiple places throughout the state. That connectivity between the two points is critical. Without having a good way to understand how the CO₂ pipeline is gonna be regulated, I think that's an important gap that we're overcoming on both sides of the fence on CCS.

Now, working, you know, working alongside all the decision makers and stakeholders, so to providing our input, is, you know, hopefully gonna get us there at the end. The way we're thinking through this is going on greenfield projects, going towards greenfield projects, it's a tremendous way to accelerate CCS. We can't wait always for the regulation to be put in place on the more challenging aspects. We have a project that can be co-located. We have three projects now, in fact, right? Blue hydrogen, renewable gasoline, and DME, and that's a way to bring the energy transition into, into the near term, which is something that California really wants to see. It brings alignment. We provide this one-stop shop. It's a good way to showcase progress as we wait for other regulations to come into play.

You're right, that's gonna be an important aspect to see, that trailer bill to 905 is something that we're very much looking to see, and, and that's gonna help, literally connect the points between emission sources and the storage vaults.

Kalei Akamine (Senior Equity Research Analyst)

I appreciate it. I'll leave it there. Thanks.

Francisco Leon (President and CEO)

Thanks, Kalei.

Operator (participant)

The next question comes from Nate Pendleton with Stifel. Please go ahead.

Nate Pendleton (Analyst)

Morning. For my first question, starting at a high level, can you comment on how or if recent M&A in the CCS space has impacted your view on separating Carbon TerraVault?

Francisco Leon (President and CEO)

Yeah, I mean, I think, it's, it's, you know, important to see, the, the M&A space, moving on CCS. It's a good validation, certainly of where the industry is heading, and in particular, for, for the Denbury team. It, it's hard to predict toward where we go from here, other than, there's, there's a lot of... We've knew there was a lot of investor interest in investment dollars in this space. Does that lead to, to combinations? I think it's clear that we're heading there. Ultimately, we're gonna be all in different timelines. We're gonna be in different markets to pursue, and, I just see it as a good validation point that, CCS is definitely gonna be here to stay.

Now, in terms of the separation, I would say, you know, not focused on, on the things that we don't control and, and whether we expand or not outside of, of our current footprint. I think the focus really needs to be, we need to get permits from the EPA. We need to be able to start construction and, and get line of sight into that first cash flow. I think at the end of the day, we're gonna be looking at an early-stage industry, with a lot of people that are watching every step of the way, so the best way to do it is just take it step by step and start showing progress. You know, the progress we've shown in two years has been tremendous.

We look to accelerate that, but ultimately, the permit is the catalyst. I don't see the M&A as the catalyst. I think the permit situation with the EPA is gonna be what gets things moving, not only for ourselves, but for a lot of other people that are in the space.

Nate Pendleton (Analyst)

Thanks. Looking at slide 17, with your Carbon TerraVault projects to date and the significant addressable market you mentioned on, on slide 16, I believe, do you have a target cadence for adding new sequestration sites beyond CTV V, or could you provide any color as far as your outlook for additional sites?

Francisco Leon (President and CEO)

We're targeting 200 million tons of pore space to be permitted, and we're at 191. We're pretty much there in terms of the permit submission aspect to this. What we've seen is, as we saw with 26R, which is part of CTV I, once you're in discussions with the EPA, once you collect more data, once you have a better sense of the land position, you're able to expand the projects, and that's what we did with 26R. We added capacity to that. There's always gonna be room to expand beyond what we're submitting. I think for what us is critical is, we've now secured the pore space that we want to pursue. We started the permitting process.

It's about bringing in the CO₂ into those fields. That's the next catalyst, and that's what we're focused on. There's over 20 million tons per year of emissions. If you add every single counterparty that we're talking to at the moment, it adds up to about 20 million tons of emissions. We think our pore space is able to ultimately, on a combined basis, get us to about 5 million tons of emissions per year. We're about four times, you know, in terms of the as the coverage of CO₂ or in terms of counterparties that we're talking to, we're 4x our capacity. It's important that, you know, we start getting reservations, we start finalizing deals with other parties. At some point, that pore space is gonna, it's gonna run out, right?

And then you have to restart again. There's gonna be a lot more to do. We think, you know, it's five times our pore space that we ultimately can do, but our near-term target is 200 million tons. Really focused on that, ability to connect the dots with the emitters, because I think everything else, we feel like we got it in pretty good shape.

Nate Pendleton (Analyst)

Got it. Thanks for taking my questions.

Francisco Leon (President and CEO)

Thanks, Nate.

Operator (participant)

The next question comes from Nitin Kumar with Mizuho. Please go ahead.

Nitin Kumar (Managing Director and Senior Energy Equity Research Analyst)

Hi, good afternoon, guys. I'm gonna start with the oil and gas side of things. Francisco, you mentioned the $50 million target on OpEx. As I look at the numbers, you're really not guiding to that, and you said that, could we get a sense of the progress you have made to date? I know you, you aren't expecting an impact this year, where are you on that, that project to reduce costs by $50 million?

Francisco Leon (President and CEO)

Hey, Nitin, really excited about this initiative. I feel like we've, we've had, we have a tremendous team, a tremendous organization, but I, I challenged the team to see if we could do better. That was the question: Can we do better than we have in the past? Are there opportunities in, in...... Omar, who's here with me, and, and, and others from the team, really have stepped up to the challenge and said, "Yes, we can do better, and, and we're getting after it." We gave some examples of the things we're looking at it, from the way we contract, there's some, some opportunity to bring some contracting work in-house.

There's other places where you actually may outsource in, in kind of challenging the, you know, the model that we've had for, close to a decade now as an independent company. It was a good time to kind of test, things that we could improve. We're looking at warehousing model. We're looking at relationships with key vendors. We're looking at the organizational design. I think the commitment that, that I have from the team is this is not gonna be a one-and-done process. We're always gonna look for ways to improve the cost structure.

So where we might reach a finality here in this quarter, in terms of this first stage, to get to $50 million, so we can start incorporating and tap into the 2024 guidance, we're gonna continue working through ways to improve the business. There's, there's things like energy, for example. CTV is doing a lot of interesting things with new technology on, on that, that could really work in the future. And then if we can, if we can reduce our exposure to the California grid, that's gonna be a big benefit to CRC and our cost structure. That's a big cost driver, the energy cost. We also have a lot of wells, and those wells are great assets for us, right? We were able to do sidetracks.

We're able to do workovers without having to have a drilling rig on site. I think that, that answers part of the question as to why we have such low decline. We're very spread out over a large footprint, so we're looking at things like GenAI, drone technology, things that are up and coming, but I think we're gonna be particularly well suited for incorporating some of those technologies on a go-forward basis. Anyways, to summarize, $50 million is what we have line of sight. We think we can get to... That's why we have a plus, because we think we can do a lot more. It's a commitment from the team to continue to look at operations and try to bring down the cost structure and ultimately drive to higher cash flows.

Nitin Kumar (Managing Director and Senior Energy Equity Research Analyst)

Got it. Thank you for that answer. On the CMB side, you know, you talk about the type curve of 50-135 million per MMTPA. You're, you're close to that first million or so, 815,000 CDMA signs. This might be a long shot, but any sense of which part of the type curve you are tracking to in the first 800?

Francisco Leon (President and CEO)

Yeah, I mean, I think all five of our projects so far, Nitin, that make the entirety of that amount is all greenfield storage only. That points towards the lower end of the type curve. $50-$75 is where we bracket the storage-only EBITDA. The way to think about that is it's a lower capital requirement for those storage projects. All five of the projects that we are working towards will have a capture component built into the facility. You don't have to attach a capture technology to an existing plant, so it's already embedded. That, plus, you also have a much higher concentration of CO₂ as you bring these projects to life.

Those projects, because they're gonna be less capital-intensive, less capital requirement, when you look at returns, you're able to make really attractive returns, by even with the lower EBITDA. The opposite end of the model is where we have a full CCS as a service, where we go to an emitter, and we do all the way from capture equipment installation, to transportation, to storage. That is the part of the type curve that would point to the higher levels, that would point to the higher levels of the type curve. That also has higher capital commitments, and therefore, you need a higher contribution from the incentives in order to make a return. Right now, we're focusing on the lower end, but lower, in this case, means really good returns and low capital.

We're happy with those projects. We do want to pursue as many brownfield projects as we can. At the end of the day, this business is gonna be successful if we can decarbonize existing industry as much as we can. That's ultimately what gets the support from California. That's what we need in the state. We think we're really well positioned to achieve both ends of the spectrum.

Nitin Kumar (Managing Director and Senior Energy Equity Research Analyst)

Got it. Great. If I can sneak one last one, just any update on the Kern County permitting? I know you had said that you expect permitting to restart in second half of next year. Any updates there?

Francisco Leon (President and CEO)

That's still the timeline we're at. We anticipate a hearing in the appeal process to be scheduled sometime in Q4 of this year, and that pushes a decision, a final decision, to the beginning of next year. We're looking to be back to normal activity in the second half of 2024. No, no real changes other than we think the hearing is gonna get scheduled here very soon. As a reminder, we're working on alternative plans to field level. What's being challenged in the court is the Kern County environmental impact report. We're doing field level CEQA and EIRs for three of our core fields in the San Joaquin Basin, that collectively have about 90% of our proved undeveloped.

We're also looking for inventory and ability to drill wells outside of Kern County. It's an all-of-the-above strategy to get us back on track by the second half of next year.

Nitin Kumar (Managing Director and Senior Energy Equity Research Analyst)

Great. Thanks so much.

Operator (participant)

The next question comes from Leo Mariani with Roth MKM. Please go ahead.

Leo Mariani (Managing Director and Senior Research Analyst)

Yeah, hi. Could you guys talk about just the production guide in the third quarter? Second quarter, you did 86,000 barrels a day net. You guys talked about seeing some declines in the second half, but your third quarter guide is 86-88. That implies sort of a, you know, a modest increase. Can you just kind of help us connect the dots there?

Francisco Leon (President and CEO)

Hey, Leo. Yeah, you basically are recovering some of the NGLs that we were not able to sell. On a sales basis, that, that shift happens. Absent any big movements in price that affects your PSE barrels, we see it at that, that's the right range, 86-88 for the third quarter. That does imply further some decline in the fourth quarter.

Leo Mariani (Managing Director and Senior Research Analyst)

Okay, that's helpful. Then just in the second quarter, I mean, it looks like you guys paid out more than 100% of your free cash flow to shareholders in the form of, you know, dividends as, as well as buybacks. Is that sort of an anomaly, or are you guys sort of comfortable potentially doing that, just depending on, you know, say, where the stock is and then the macro situation based on the strength of the balance sheet here?

Francisco Leon (President and CEO)

Yeah, last year, we paid over 100% of free cash flow, if you look at 2022. Year to date, we're closer to 50. We had a very high cash flow quarter in Q1. If you average Q1 and Q2, even though Q2 is higher than 100%, we're at about 50%. We're, we're very comfortable with our, with our capital allocation strategy, we do evaluate the best method to provide returns and value to shareholders every quarter. I mean, we do have a fixed dividend, you know, it's about $1.13 per share. That's, that's in there, that, that gives the market, more of a fixed component.

The rest of it is discretionary based on, on how the business is, is looking and, and where we see the most value. We, we do look at where's the best return for the company, and that's what we act on. You know, we haven't been prescriptive on the shareholder buybacks, but because we, we like to assess every quarter where we are. If you look backwards, we have been over 100% in 2022, and but right now we're closer to 50% for the year.

Leo Mariani (Managing Director and Senior Research Analyst)

Okay, that's, that's helpful. Also, could you just comment on, you know, sort of existing competition for CCS deals, you know, out there in California? As far as I know, you guys are the only ones that have kind of put some, some deals on the board here with, with five deals, but certainly correct me if I'm wrong. Any information you can kind of provide about the competitive landscape would be helpful. Also, is there any update on the sale of the, the parcel that you're working on in Huntington Beach area?

Francisco Leon (President and CEO)

Yeah, I'll go with the, with the, the Fort Apache, which is our one-acre parcel in Huntington Beach first, and then I'll come back to the CCS question. We are making progress. There's many components to converting an oil field to a real estate project. We're going through abandonment, we're looking at regulatory requirements, but you also look at market conditions. We're working through all three. As we said before, we think this gives us a really good look as to what ultimately be the decision that we make for the bigger property, which is 90 acres down the street.

It's a good way to test the waters and make sure we, we understand all the requirements from, from the law and ultimately gets this one acre sold into the, the highest and best bidder. We're working through that. We, we said, think we've from the beginning said that this was gonna be something that we would do by year-end. Not just 'cause we wanna just provide a lot of cushion. There's a lot of things to do, and, and we're working through it. I, I think I reported last time we started working on abandonment. There's a few wells on site. There's facilities we have to remove. All of that process has begun, and it's ongoing.

Look back to reports of the results of that sale later this year, assuming market conditions hold. That's kind of the update there. We're working through that. In terms of CCS, in, in competition, I mean, you can see if you look up to the EPA website, you'll see that on the permit submission front, we are not the only ones. There's a, there's a number of other projects out there. They do tend to be more for self-solutions, meaning there's parties that wanna reduce their own emissions, and they have a site that they, they identify nearby, and, and that's how they're trying to do.

We haven't seen a Carbon TerraVault competitor come out that has a view to look at all of the state's emissions quite yet, at least, not based on what you could see publicly. We do see competition. We do see this as being as not like the Gulf Coast, where it seems like a free-for-all, but here, you're gonna have, you're gonna have competition. We think this is gonna be a very successful business undertaking and that we see others that are either trying to acquire land, others that are. You're gonna start seeing some permits, we think, in the EPA of parties that maybe they're not there or don't register as potential counterparties in the state.

Feel good about what we've established to date, which is the core position that we wanted to have and what we ultimately ties to our commitments. Yeah, don't be surprised if within the next 6 months, you start hearing about others coming into California.

Leo Mariani (Managing Director and Senior Research Analyst)

Thank you so much.

Operator (participant)

The next question comes from Noel Parks with Tuohy Brothers Investment Research. Please go ahead.

Noel Parks (Managing Director of CleanTech and E&P)

Hi, good afternoon.

Francisco Leon (President and CEO)

Hi, Noel. How are you?

Noel Parks (Managing Director of CleanTech and E&P)

Good, thanks. Just a couple of things. You know, I was thinking that, of course, the company has the long roots in oil and gas production, and you observed that CCS is a very young industry. For the five deals you've done so far, you know, it's kind of a sense that the train is just starting to chug along and maybe getting ready to leave the station for CCS. I was wondering, can you sort of walk through the deals to date and describe what types of things you were negotiating on each of these transactions to get you or to get the customer to pull the trigger? Sort of like, what are, what are the issues that are in the mix when you're with, with these past deals?

Francisco Leon (President and CEO)

Yeah. You know, we're kickstarting the energy transition in California. There's, there's a lot of interest to develop markets like hydrogen or renewable gasoline, the project we announced with Verde today. In a lot of cases, I mean, you don't have first of all, you don't have the product, but you also don't have the market and the offtake. The energy transition, I think we're, you know, we're very committed to it, but we need to drive towards that. That's a lot of investment that needs to come in. That's where, you know, we are working with agencies to get the permits, on their way. Otherwise, the transition is gonna take much longer.

What we're trying to do with the conditions precedent that are established in, in the CDMAs basically relate to things like offtake agreements. In some cases, we have already an existing offtake agreement with the counterparties. In some others, we're working through that, right? Who's gonna buy the blue hydrogen from Lone Cypress? Critical that we understand that. That's in terms of our... You know, we have reserved the option to invest into the projects on all five at this point, that's a good way to really look into the market and how that evolves. There's a lot of groups, in, in a lot of very, a lot of groups with very deep pockets that, that wanna develop that hydrogen network for heavy trucks in California, that doesn't mean...

I think we have something like seven stations in the entire state. That, that's gonna require, it's a little bit of a circular kind of chicken and the egg problem. You have off-takers that want the product, that they're building plans are ready to go, and then, but you don't have the hydrogen in a form that's readily available and cost efficient, that, that ultimately they can sell. We're trying to bring all of that together on these projects. But again, it's, it's very well aligned with where the state is, is asking us to be. We, we wanna be the tip of the spear. We wanna be the leader in the space. We wanna, we wanna create these markets, but it, it's gonna take some time. Now, if you think about brownfield, greenfield, right?

Because this maybe sounds like it's early stage, and it's not gonna get there. It will get there. Again, because we're focusing on areas where we already own the land, and we're gonna be co-located with the reservoirs, that, that brings us much closer to, to a, a final investment decision than others. If you had a brownfield project, you still have to install a capture facility on an existing plant and then make sure you have the right build-out on the pipeline. This is why these projects are not happening next year, right? That's where we said, you know, to get to our critical mass of injection, we're looking at end of the year 2027, because a lot of these projects have to come together. But there's. Just again, to recap, it's a lot about the offtake agreements.

Who's gonna be buying these products? Is the support gonna be there? What's the price? We went through a significant change, positive one, with the IRA last year and 45Q, providing a much better support for some of these projects, and that's what we're actively trying to capitalize on, on these greenfield projects. There's, there's still a lot, a lot of work to do. Ultimately, that Class VI permit for us is the catalyst that gets a lot of things going. We have the capital with Brookfield, we get the permits, it's a matter of starting the construction and getting these products to market.

Noel Parks (Managing Director of CleanTech and E&P)

Great. Thanks a lot. This is just what I was looking for. You know, you also talked a bit about technology development. You're talking largely about in-house applications for cost savings. Just zooming out a little bit to, and this is a little bit of a devil's advocate question. Post injection of CO₂, I was wondering if you have done any work or can talk about what sort of monitoring technology post injection you're gonna need. I was wondering, is that something that's costly? Are the methods or the vendors for doing that standardized?

Just thinking that as you have, you know, worries about not, you know, maybe opposition to, you know, injection of CO₂, you know, just sort of forestalling, any concerns that might be there around, you know, it staying sequestered, et cetera.

Francisco Leon (President and CEO)

No, that's a great question. I'll pass it on to Chris Gould to provide the answer.

Chris Gould (EVP and Chief Sustainability Officer)

Yeah. Hi. Hey there. I think the most important thing to understand when it comes to monitoring is that that's part of the EPA Class VI permit. All the requirements are spelled out as to what needs to be done, and how, for how long, by what sensitivities those need to be dialed into, if you will. There's really not a lot of guesswork there. We know what we have to do, and we'll get the permit on the basis of complying with that.

When it comes to fulfilling those requirements, there's a lot of different applications or opportunities to do it through collaborations with existing monitoring all the way through, you know, new technologies that we've been heavily engaged with the DOE, other universities that conduct this sort of monitoring and have done so for many years, particularly in a state like California. We feel very well prepared for complying with the, the, the permit requirements with an abundance of different, you know, emerging or existing technologies. Thank you.

Noel Parks (Managing Director of CleanTech and E&P)

Great. Thanks a lot.

Operator (participant)

We have a follow-up from Scott Hanold from RBC Capital Markets. Please go ahead.

Scott Hanold (Managing Director and Senior Energy Analyst)

Yeah. Hey, thanks. Francisco, real quick, you, you mentioned, you know, obviously on the shareholder return that, you know, you all are gonna look at what, you know, creates the most values for the shareholders. Just some context, you know, obviously, you've got the, the, the base dividend in there, but, you know, as you kinda step in and look at the buybacks, obviously, when, when you're, you know, doing it before for the last year or so, I mean, doing it under $40, that was, you know, sort of a lay-up decision, right? Now, you're $10-$15 per share higher. Like, can you walk us through that thought process of, you know, from, from your... On, on the allocation of those shareholder returns, like, where does the stock price play into that?

How do you think about, like, where it is today versus, you know, obviously, where it had been over the last year?

Francisco Leon (President and CEO)

Hey, Scott, welcome back. What's your price target? Like 60? you know, I mean, have to look at it, well, yes. We have the option to increase the dividend. We have the option to continue with buybacks. We also can look at the debt. All, all options are on the table. We, we, we like to be opportunistic because just like we did last, last quarter, we were able to buy and reserve shares at 39. If you look at the history over the last, you know, 4 or 5 months, I think we were able to pick a really good time to deploy the cash to buy the lowest average price for the share. That discretion, that ability to make a decision, really comes from a returns-oriented analysis, right?

We, we look at the opportunities in front of us, then we make a decision. What we even though there's discretion in, in the how we, how we return cash, cash to shareholders, we're very committed to the program and to return the highest amount of cash to the, to the shareholders over the long run, right? Even though there may be some variability in the amounts in the quarter and the like, we, we do look at it actively, and ultimately, we're very committed. Now, we, as a reminder, right, we didn't talk about it today, but we have the high yield indenture that ultimately governs, our ability to, to distribute cash via either dividends or, or buybacks. It's a last 12 months, 50% of net income calculation.

There is a oil price, or a commodity price component to it. If you're bringing in, you might have a period of very high prices at the moment, but you're bringing in lower commodity prices from the last 12 months, and that acts as a capping mechanism, right? Because we're dealing with those caps and you're dealing with discretion, it's very difficult to be more prescriptive, but very committed to returning as much cash to the shareholders as we can.

Scott Hanold (Managing Director and Senior Energy Analyst)

No, that, that's helpful. One real quick one for me, just to, to close it out for me. Just on, on some of these greenfield projects that you all have, you know, CDMAs for, when you think about, you know, obviously, your Class VI permit, which is, you know, something you're working towards, but are there any other, like, permits or approvals that we should be thinking about to get, like, a blue hydrogen or a blue ammonia, a renewable gasoline facility approved either at the state or even at the Kern County Planning Commission? Is there any specific approvals or, or, legislation that governs some of that?

Francisco Leon (President and CEO)

Yeah, no. You know, you need a conditional use permit. That's a critical local California permit, and that's doing in conjunction and working very closely with the Kern County Planning Commission. Those conversations are ongoing for the projects that are gonna be at Elk Hills. Like I said before, we're working on all those in parallel. It's nice to have the Kern County Planning Commission there because they see all aspects of the energy spectrum, right? They're the ones that do the conditional use permits for oil and gas, but also for solar and wind projects. So it's a natural extension of what they do to look at the greenfield projects and be the group that oversees these permits.

That's one to look for in... Like I said, we're, we're working through it. They're, they're aware of our plans, lockstep, working with a lot of the, you know, the same information that you send to the EPA, you have to provide locally. That would be one to look for after we get the draft permit this year, to... We'll, we'll share more of the progress and the inner workings of the California approval. That, that's the one I would highlight. Certainly, we're looking for the, the pipeline regulation to also be put into place in the near term. That's gonna be critical as we move away from co-location.

Scott Hanold (Managing Director and Senior Energy Analyst)

Got it. Thank you.