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Edited Transcript of FEC.TO earnings conference call or presentation 6-Mar-20 3:00pm GMT

Q4 2019 Frontera Energy Corp Earnings Call

TORONTO Mar 31, 2020 (Thomson StreetEvents) -- Edited Transcript of Frontera Energy Corp earnings conference call or presentation Friday, March 6, 2020 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Andrew Kent

Frontera Energy Corporation - General Counsel & Secretary

* David A. Dyck

Frontera Energy Corporation - CFO

* Gabriel De Alba

Frontera Energy Corporation - Independent Chairman of the Board

* Richard Herbert

Frontera Energy Corporation - CEO

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Conference Call Participants

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* Anish Kapadia

Hannam & Partners (Advisory) LLP, Research Division - Analyst of Energy Research

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Presentation

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Operator [1]

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My name is Lindsay, and I will be your conference facilitator today. Welcome to Frontera Energy's Fourth Quarter and Full Year 2019 Results Conference Call. (Operator Instructions) I would like to remind you that this conference call is being recorded today and is also available through audio webcast on the company's website. (Operator Instructions)

Analysts and investors are reminded that any additional questions or concerns can be directed to the company at ir@fronteraenergy.ca.

This call contains forward-looking statements, which reflect the current expectations or beliefs of the company based on information currently available. Forward-looking statements are subject to a number of risks and uncertainties that may cause the actual results of the company to differ materially from those discussed in the forward-looking statements. Factors that could cause actual results or events to differ materially from current expectations are disclosed under the heading Risk Factors and elsewhere in the company's annual information form dated March 5, 2020. Any forward-looking statement speaks only as of the date on which it is made, and the company disclaims any intent or obligation to update any forward-looking statements.

I would now like to turn the meeting over to Mr. Gabriel De Alba, Chairman of the Board of Frontera Energy.

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Gabriel De Alba, Frontera Energy Corporation - Independent Chairman of the Board [2]

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Thank you, operator, and thank you, everyone, for joining today's conference call to review Frontera's strong fourth quarter and full year 2019 financial results and provide an update on Frontera's progress investing in long-term growth and efficiencies while generating strong free cash flow, which we are using to enhance shareholder returns.

Highlighting our team's strong operating discipline and forward focus, Frontera's 2019 results were at or above the favorable end of our overly revised guidance for all metrics. The strong financial results funded significant shareholder returns as the company sustained core production, replaced its reserves and invested in some very exciting long-term growth and exploration initiatives, which I'll address in a moment.

In 2019, Frontera delivered operating EBITDA of $586 million and cash provided by operating activities of $547 million, which funded $346 million in capital expenditures to sustain core production, replace over 100% of reserves and develop long-term growth opportunities. We are very satisfied to have added 26.2 million barrels of 2P reserves last year on a net basis, representing a 112% reserve replacement ratio. Our 2019 reserve report did not include the results from our exploration joint venture with Parex, the new acreage we acquired in Ecuador, Colombia or Guyana, which is one of the world's most exciting exploration basins. We are continuing to move forward in our joint venture with local partner, CGX, which Richard will address in a moment.

While investing in the business, we are also allocating significant cash to enhance shareholder return. Last year, we paid CAD 1.44 per share in dividends, representing a yield of 12%. Additionally, we repurchased 2.7% of the shares of the company through our NCIB. So far in 2020, the company has announced or paid dividends of CAD 0.41 per share, representing a further yield of over 5%, and we have bought back 1.4% of the company's shares. From 2018 through to 2020, year-to-date, the company has returned over $150 million to shareholders via dividends and buybacks.

For those new to Frontera, and to put it in context, Frontera is committed to returning to shareholders excess cash generated from the business beyond what is needed to sustain production from our core assets and can be productively invested in long-term growth opportunities. In addition, the company will be opportunistic in buying back shares under the NCIB.

The company has maintained a strong balance sheet with $456 million of total cash at the end of December 2019, down only slightly from $500 million upon emergence from restructuring in 2016. Frontera has demonstrated significant financial discipline since the restructuring in November 2016 when it emerged with $500 million of cash. This means the company has only used $44 million in cash on a net basis over the past 3 years to rationalize and unwind a number of legacy partnerships and obligations, including buying the IFC out of Bicentenario pipeline, and the Darby group out of transportation agreement in 2019 for $82 million. We also returned $150 million to shareholders via dividends and buybacks, all while sustaining daily production and reserves. In addition to the cost savings delivered in 2019, which included an 18% reduction in G&A costs in absolute terms and a 4% reduction in production cost and a 2% reduction in transportation cost, both on a per-barrel basis, management remains committed to delivering further cost savings in 2020. The Board has considered a number of plans to be implemented during 2020 depending on oil prices going forward. This new level of planning agility for Frontera has been enabled by an improved budgeting and planning process implemented over the past 2 years, which makes the company more sustainable over the long term.

The strong financial position of the company's balance sheet, combined with a hedging portfolio that covers over 40% of net production during 2020 and a flexible capital program, enables Frontera to execute its strategy of optimizing our existing core-producing assets and reserves while executing on a very exciting exploration program in 2020, a program that has already delivered positive results with the successful La Belleza well on the VIM-1 block in Colombia.

I will now turn the call over to Richard Herbert, our CEO, for additional detail on our operating and financial results in 2019 as well as some additional detail on current operational initiatives.

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Richard Herbert, Frontera Energy Corporation - CEO [3]

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Thank you, Gabriel, and good morning, everybody, and thank you for joining our call today. This year, 2020, has started with significant

volatility in oil price and uncertainty in the financial markets. The impact of the coronavirus, first, on China and now on other countries around the world has lowered oil demand, causing oil prices to fall and has generated concern about the global economy. At Frontera, our response to this volatility in oil price is to protect our strong cash position and our ability to pay our quarterly dividend. We have, for now, maintained our guidance. Rent oil price at $60 a barrel but we are testing our resilience to lower prices and have the flexibility to reduce CapEx and defer projects as we continue to find ways to lower our cost structure. I will provide more details on this later in the call.

First, I'm going to talk about 4 important areas of Frontera's business. I will make some observations about our 2019 reserve report information, which was released on February 18. Then I will talk about our operations in the fourth quarter and throughout 2019. Third, I will talk about our growth initiatives and, as I just addressed, some of the measures we are implementing as part of the recent decrease in oil prices.

Frontera delivered a strong 2019 reserves report with a reserves replacement ratio of 112%, net 2P reserves. Colombia maintained a 7.1-year 2P reserve life index driven primarily by reserves additions at Quifa, which benefited from the water-handling expansion project, which was started up at the end of 2018. Other blocks, including CPE-6 and Sabanero benefited from improved production performance, combined with near-field exploration success. While Guatiquia and Arrendajo demonstrated better production performance throughout the year. Although our producing assets in Colombia are considered to be mature, our heavy oil fields have large volumes of oil in place which facilitate reserve replacement over a long period of time, and we continue to demonstrate successful near-field exploration success throughout our light, medium and heavy oil assets.

Further proof that our existing asset base has the potential to deliver additional reserves over time was reflected by 6% growth in our 3P reserves on a net basis. Our finding and development costs in Colombia were $12.12 per BOE on a 1P basis and $17.46 per BOE on a 2P basis, including changes in future development costs, representing recycle ratios of between 1.8x and 2.6x, respectively, in 2019. The increase in reserves helped deliver a 10% increase in the after-tax discounted net present value of our reserves to $2.1 billion or CAD 27.95 per share at the end of 2019.

I would like to remind listeners that our reserves report excludes any value for our portfolio of exploration and midstream assets as well as any value for the equity the company holds in our publicly traded subsidiary, CGX Energy. It also excluded any reserves impact to the successful La Belleza exploration well that was drilled on the VIM-1 block in Colombia during the fourth quarter of 2019.

Second, turning to Frontera's strong operations during the fourth quarter of 2019. We delivered 1% quarterly production growth to 70,905 barrels of oil equivalent per day with strong Peru production, offset by weaker Colombia production, which had limited development drilling activity in both our heavy and light oil business units.

Increased capital expenditures during the fourth quarter were driven, in part, by increased exploration and facilities expansion spending on the CPE-6 block. In this block, the Galope-1 and Contrapunteo-1 exploration wells, which further delineated the successful Amanecer and Coplero discoveries made earlier in the year, confirmed additional reserves to the northwest and southeast of the Hamaca field. The company also increased its water treatment and disposal capacity on the block to over 60,000 barrels per day of fluid capacity which will enable the block to produce up to 5,000 barrels a day of oil. We previously announced that production from CPE-6 was approximately 3,500 barrels per day at year-end.

Additional exploration spending during the fourth quarter of 2019 included the VIM-1 exploration well, La Belleza-1 and offshore Guyana where we completed a 582 square kilometer 3D seismic acquisition program over the northern part of the Corentyne block, which is adjacent to Apache's recent discovery, offshore Suriname.

Our large and medium oil business in Colombia had lower drilling activity in the second half of 2019. However, we have just completed drilling the Canaguaro-3 development well on the Canaguay block in Colombia, which encountered 55 feet of net pay over 3 Mirador reservoir sections. The rig will now move to the Coralillo field on the Guatiquia block, where we will appraise the western flank of the field extension we were granted in 2018 by drilling the Coralillo-4 well. The results of Coralillo-4, combined with oil price, will dictate whether additional wells will be drilled at Coralillo during 2020.

Third, in our growth initiatives, the Lower Magdalena Valley exploration program has started well with a discovery in the La Belleza exploration well on the VIM-1 block with our partner, Parex Resources. We have completed 2 separate well tests which have demonstrated stable production rates under no drawdown as a result of being restricted by the capacity of the testing equipment. It was encouraging that the water cut decreased from 12% during the first test to only 6% during the second test. The partners are currently evaluating the test results and will provide forward plans in due course. Also in the Lower Magdalena Valley, we are currently drilling the Asai-1 exploration well on our Guama block. We are currently at about 7,400 feet depth with a principal target towards 12,000 feet. So far, the well is drilling to plan, and we have encountered natural gas pay in a secondary shallow zone which is encouraging. We expect to have results from Asai by May.

In Guyana, with our partner, CGX Energy, we have identified the first 2 drilling locations on our blocks where we are expected to start drilling later this year. The first well will be drilled in the Corentyne block, followed by a well in Demerara block.

In Ecuador, our team continues to make progress with the environmental and other permits required before site preparation can begin on the Perico block ahead of the first exploration well, which is targeted towards the end of the year. Similarly, on the Espejo block, the permitting process is underway for the 3D seismic program being undertaken in 2020.

And finally, in Peru, we recently received a 6-month contract extension from the Peruvian authorities on Block 192 which takes the end of our contract out to September 2, 2020. The contract extension is designed to give Perupetro and Petroperu time to complete consultations with local communities and run an open process for our long-term contracts on the block, which is still expected to be awarded this year.

And lastly, in 2019, we were able to reduce costs across our entire business and have moved to a new operating model that should continue to deliver cost savings and efficiency improvements in our operations throughout 2020. We have also acted swiftly to the recent downward movement in oil prices. In addition to cutting all nonessential travel and reducing our contractor headcount, we have evaluated all of our individual capital projects for 2020 and have identified between $50 million and $75 million of capital projects that can be deferred depending on the price of oil. We also expect to be able to reduce operating costs by approximately 5% on a BOE basis and G&A by between 5% and 10% on an annual basis.

I would now like to turn the call over to David Dyck, our CFO, who will take you through our financial details.

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David A. Dyck, Frontera Energy Corporation - CFO [4]

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Thank you, Richard, and thank you for everyone who has joined our call today. It was another solid quarter and a great year from a financial perspective,with net income of $69 million or $0.71 per share for the quarter. In 2019, net income attributable to equity holders of the company was $294 million or $3.01 per share compared to a net loss of $259 million in 2018. Operating EBITDA was up 10% on a quarterly basis to $137 million in the fourth quarter of 2019 and up 42% on an annual basis to $586 million in 2019. Operating EBITDA margin was 46% in 2019, up from 38% in 2018

As Gabriel noted, the company had a strong year for cash generation with cash provided by operating activities of $547 million in 2019 relative to $416 million of cash used in investing activities in the year. Capital expenditures of $346 million in 2019 were 22% lower compared to 2018, and the delivery of stable production and growing reserves demonstrates our ability to generate strong returns from our existing asset base while maintaining financial discipline.

During 2019, we reduced our G&A costs by 18% to $76 million and have implemented a continual cost and efficiency improvement culture. We are also focused on resolving legacy issues, including transportation agreements and the ownership of Puerto Bahia, so that we can create value for our shareholders and simplify the company.

Total cash, including restricted cash, was $456 million as at December 31, 2019, up 3% from the third quarter of 2019 and down $136 million compared to December 31, 2018, of which $123 million was cash returned to shareholders via dividends and share buybacks in 2019. During 2019, the company reduced its restricted cash balance by $15 million and continues to work on a number of initiatives to further reduce restricted cash balances in 2020.

In October 2019, the company announced the renewal of its normal course issuer bid, pursuant to which the company may repurchase up to 6.5 million shares of the company representing 10% of the public float during the 12-month period, October 18, 2019 and October 17, 2020. So far under the renewed NCIB, the company has repurchased for cancellation 2.9 million shares at an average price of $9.79 per share.

The company's financial performance continues to deliver strong credit metrics with gross debt to trailing 12-month EBITDA of 0.7x and debt to book capitalization of 22%. These strong credit metrics reflect management's disciplined approach to capital allocation, focus on costs and returns and prudent levels of leverage given the cyclical nature of our business.

I will now provide a quick update on our hedging strategy. The company has hedged approximately 40% of 2020 production using a combination of Brent oil price linked purchased put options, 0 cost collars, put spreads and 3-way collars to protect the company's balance sheet and capital program within the hedging limits set by the Board of Directors. The average floor price for our hedge portfolio in 2020 is $58.44 per barrel. In the first quarter of 2020, we have over 50% of production hedged with floors between $57 and $59 per barrel. In the second quarter, we have 40% of production hedged at $57 per barrel. And in the third quarter, we have 40% of production hedged at $60 per barrel. Finally, during the fourth quarter of 2020, so far, we have hedged 15% of production hedged at $60 per barrel. The hedging program, combined with a net cash balance and flexibility with respect to our capital program, will ensure the company maintains sufficient liquidity as we manage through this period of [volatile] oil prices.

I will now turn the call back to Richard for some closing comments.

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Richard Herbert, Frontera Energy Corporation - CEO [5]

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Thank you, David. I'm very pleased with our strong operational and financial results in 2019,which position us well to withstand the challenging and unpredictable conditions of this year. At Frontera, we are focused on sustaining our core production operations and testing the exciting exploration potential in our portfolio while simplifying the company, protecting our strong balance sheet and maintaining returns to our shareholders. We remain confident that energy markets will stabilize during 2020, but we'll take decisive actions to protect the company, should weak oil prices persist.

Thank you for attending our call. I will now turn the call back to our operator, who will open up for any questions that you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Anish Kapadia with Hannam.

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Anish Kapadia, Hannam & Partners (Advisory) LLP, Research Division - Analyst of Energy Research [2]

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My first question was really surrounding Guyana. So what I wanted to understand a bit better was the impact the recent Apache well has had and maybe some of the initial thoughts on your seismic data. Clearly, Apache moved up pretty substantially, I think added about $4 billion of market cap with the discovery and it's gone now. So I was just wondering, from a geological perspective, do you see any of the same trends from the Apache block in your block? And from a kind of more commercial standpoint, are you seeing any increased levels of interest in your block as a result of those discoveries?

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Richard Herbert, Frontera Energy Corporation - CEO [3]

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Yes. Anish, thank you for the question. On Guyana, yes, everyone has seen that Apache drilled a well in neighboring Suriname, which they announced as a major discovery, at the same time as they brought Total in as a partner. I mean I think what we -- what I would say today is that we're in a basin that is extremely prolific. ExxonMobil have announced over 8 billion barrels of oil equivalent discoveries in their block in Guyana, and the Apache well was drilled on trend with that, just across the border in Suriname and right next to our Corentyne block which we share with CGX.

So geologically, we are in a very similar territory. As we've explained before, we did not have 3D seismic data over the northern part of Corentyne, which we view as one of the most attractive parts of our acreage in Guyana. And that data was finally acquired in the fourth quarter of last year, and it's currently being processed. And we're starting to see some of the early products from that processing, but it will take a few months before we have that data fully available for interpretation. So we're very encouraged by Apache's results. It plays very well for our position in Guyana, especially in the Corentyne block, but it's still early days to see exactly how those trends pass into our block until we've seen the data.

And in terms of interest, yes, there's a lot of interest in our Guyana blocks. Our partner, CGX, has announced in the past that it's working actively to bring a joint venture partner into the block. And results, such as Apache's, can only help that. I hope that addresses your question.

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Anish Kapadia, Hannam & Partners (Advisory) LLP, Research Division - Analyst of Energy Research [4]

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And just one other follow-up on that. You mentioned that you've got 2 well locations in mind at the moment to drill in the second half of the year. Are you able to give any details around what kind of prospect sizes you're seeing, kind of what kind of targets you're looking to go after?

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Richard Herbert, Frontera Energy Corporation - CEO [5]

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Anish, we're not quite in a position to start talking about specific drilling locations, prospect sizes, et cetera. We're working with our partner, CGX, to define the drilling program, and there's actually going to be partner meetings in Houston next week where I think a lot of this will get decided. But it's -- but we don't have any specific data to talk about at this stage.

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Anish Kapadia, Hannam & Partners (Advisory) LLP, Research Division - Analyst of Energy Research [6]

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Okay. Sure. And then shifting back to Colombia. You had some positive news flow with the La Belleza discovery. I was just wondering if you can give any indications on your initial expectations on the size of that and kind of anything around the economics. I'm guessing that should be fairly good given the strong flow rates that you've seen.

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Richard Herbert, Frontera Energy Corporation - CEO [7]

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Yes. So coming back to Colombia and the Lower Magdalena Valley, the La Belleza discovery, which is a 50-50 joint venture with Parex, I mean, we've announced the results of the well, which were very encouraging. We flowed 43-degree API oil there at over 2,600 barrels a day with over 12 million cubic feet of gas. So by Colombian standards -- by any standards these days onshore, that's a very productive reservoir and a very encouraging well results. And we were particularly pleased that the water cut seemed to come down during the test to under 6%. So we've got a very good well at La Belleza. We still have more work to do before we can really assign volumes to the discovery and also some indication of sort of what the development plan is because we're still analyzing the test results, which takes quite a while because we have to look at pressure buildup data. And I think there will be a period working with Parex here where we identify what's the appropriate appraisal program for this discovery is. And then I think we can -- well, then we will be able to release more information about our plans.

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Anish Kapadia, Hannam & Partners (Advisory) LLP, Research Division - Analyst of Energy Research [8]

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Okay. Sure. And then one final question on your infrastructure position. You've talked about looking at ways potentially monetizing of that. Can you just give a bit of an update on your thoughts around that and also the arbitration on the Bicentenario pipeline?

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Richard Herbert, Frontera Energy Corporation - CEO [9]

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Yes. Certainly, Anish. So our midstream position, which, to remind people, we have midstream assets, which are both pipelines, and we also have an equity interest in Puerto Bahia port in Cartegena Bay. I think for -- I mean I think people will be interested, I'm sure, to hear an update on the process on our pipeline dispute, mainly around the Bicentenario and the Caño Limón-Covenas pipelines. So why don't I turn that question over to Andy Kent, our General Counsel, who'll give you an update on how things are moving with that.

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Andrew Kent, Frontera Energy Corporation - General Counsel & Secretary [10]

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Thank you, Richard, and good morning. As we have disclosed in terms of the 2 original arbitration proceedings commenced by CENIT and Bicentenario, the status of proceedings is that we've now selected arbitration panels. We agreed in both proceedings, and the formal part of the proceedings can now commence. From our perspective, we're looking to resolve these matters as soon as is possible. Thank you, Richard.

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Richard Herbert, Frontera Energy Corporation - CEO [11]

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Very good. Thank you, Andy. And I mean just in terms of Puerto Bahia initiatives, not really any update on that at this stage. We continue to look in the medium term at how we can maximize the value from that port, which we think has a considerable amount of upside opportunity in it. But there's no -- nothing new to report at this stage.

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Operator [12]

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(Operator Instructions) And there are no questions in queue at this time. And should you have any further questions, please e-mail ir@fronteraenergy.ca.

I'll now turn the call back over to Richard Herbert for any closing remarks.

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Richard Herbert, Frontera Energy Corporation - CEO [13]

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Well, thank you, everyone, for joining our call this morning. I think if you were hearing it the same way, we were here in Bogotá. There've been a few technical issues with the sound for which we apologize. We'll make sure next quarter, we don't have those problems. I hope you were able to hear the call, and I hope you are able to take away from this call this morning a message that Frontera, having delivered a very strong 2019 operational and financial result, is in a very strong position to weather the current storms that the world is going through, and we will continue to run the company very cautiously and make sure that we protect our cash position. And we're available to take any other further questions that you have in the future. Thank you all very much for your participation this morning.

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Operator [14]

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This concludes the call. Thank you for participating.