DBRS Morningstar Confirms Ratings on ARC Resources Ltd. at BBB, Stable Trends

DBRS Limited (DBRS Morningstar) confirmed ARC Resources Ltd.'s (ARC or the Company) Issuer Rating and Senior Unsecured Notes rating at BBB, both with Stable trends. The ratings are underpinned by ARC's scale in the liquids-rich Montney resource play, competitive cost structure, and conservative financial policy. Constraints on ARC’s ratings include limited geographic diversification and a lower proved developed reserve life index with corresponding higher decline rates. The Stable trends reflect DBRS Morningstar’s expectation that the Company's financial risk profile will remain supportive of the ratings.

ARC's operating performance in 2022 was in line with DBRS Morningstar's expectations. Despite permitting delays in British Columbia (BC) in 2022, ARC was able to meet its production guidance by redirecting capital to its Kakwa assets in Alberta. DBRS Morningstar notes that the Company has started receiving permits on freehold lands (>95% of ARC's BC production base) in BC and has resumed development activity in BC in Q4 2022. While inflationary pressures did have an impact on ARC's operating and transportation costs in 2022, they were largely within the Company's guidance range. ARC has also maintained its reserve related metrics. The Company has further improved market access by entering into a long-term supply agreement with Cheniere Energy, Inc. (Cheniere) to deliver natural gas once the Corpus Christ Stage III is operational in 2027 providing ARC with access to Asian price benchmarks. Stronger commodity prices have resulted in ARC generating a material free cash flow (FCF; cash flow after capital expenditures (capex) and dividends) surplus in 2022. ARC used part of the proceeds to fully repay outstanding borrowings ($719 million) under its revolving credit facility of $1.8 billion.

ARC has budgeted capex of $1.8 billion 2023, which includes $225 million relative to the previous year’s budget. Based on its base-case commodity price assumptions, DBRS Morningstar expects ARC to continue to generate a material FCF surplus in 2023. However, because the Company has achieved its long-term leverage target of net debt-to-cash flow of 1.0 times (x) to 1.50x (YE2022: 0.4x), it is likely that ARC will direct FCF surpluses primarily toward shareholder distributions and/or growth initiatives. Nevertheless, DBRS Morningstar expects the Company to maintain its lease-adjusted debt-to-cash flow ratio between 1.0x and 1.50x. DBRS Morningstar notes that the Company's financial risk profile is strong and expects it to continue to support the ratings even if commodity prices trend below DBRS Morningstar's base-case assumptions.

A rating upgrade is not likely in the medium term absent a material improvement in the Company's business risk profile. While unlikely, a negative rating action is possible if the Company’s reserve metrics deteriorate and/or the Company’s lease-adjusted debt-to-cash flow ratio deteriorates materially and is consistently above the expected range of 1.0x to 1.50x.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

Environmental (E) Factors
DBRS Morningstar considered carbon and greenhouse gas (GHG) costs as a relevant environmental factor for ARC. This factor is relevant because ever-increasing environmental regulations in Canada targeting the reduction of GHG emissions will likely limit the growth potential and add costs for all oil and gas companies in Canada. ARC’s balance sheet strength, relatively lower carbon footprint because of its natural gas weighted production, and ongoing emission reduction initiatives provide it with the financial flexibility to navigate the energy transition path.

There were no Social or Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (May 17, 2022).

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodologies applicable to the ratings are Global Methodology for Rating Companies in the Oil and Gas and Oilfield Services Industries (August 31, 2022; https://www.dbrsmorningstar.com/research/402196) and DBRS Morningstar Criteria: Guarantees and Other Forms of Support (April 04, 2022; https://www.dbrsmorningstar.com/research/394683).

The rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

A description of how DBRS Morningstar analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/397223/interplay-of-global-corporate-finance-rating-methodologies-when-analyzing-corporate-finance-transactions.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at [email protected].

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com or contact us at [email protected].

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