A hands-off Canadian energy stock that delivers a check to you every month

You’ve probably heard stories about someone finding oil on their land and living off the resulting passive income.

An energy company shows up, drills a well, and the landowner receives royalty checks every month. They do not operate the well. They don’t hire employees. They simply own the rights to the land and collect a share of the production.

You can do something similar without owning land or negotiating with oil companies. All you have to do is buy shares Royalties owned (TSX:FRU).

What are property royalties?

Freehold Royalties is not a traditional oil producing company. It also does not operate pipelines or refineries. Instead, it owns royalty interests in millions of acres of land in Canada and the United States.

Freehold owns the rights to oil and gas production on that land. When an operator drills and produces oil or natural gas, Freehold receives a percentage of the sales. This all comes from their gross overriding royalties, which are contractual rights to a portion of production from wells drilled by other companies.

Because Freehold is dysfunctional, it avoids many of the costs that traditional energy companies face. There are no drilling costs, no field operating costs and no abandonment obligations. That makes the company much less capital.

The financial results reflect this model. Operating margins are often dramatically higher than those of oil producers. The company also has relatively modest debt compared to many exploration and production companies.

The Freehold Dividend

For income-oriented investors, the main attraction is the dividend. Freehold pays a monthly dividend of $0.09 per share. If you annualize the most recent monthly payout and divide it by the current share price, the yield on February 20 is 6.2%.

That return will fluctuate with the price of oil and gas, because royalty income depends on commodity prices and production volumes. If the stock price falls, the yield will also be higher, assuming there are no dividend cuts.

Importantly, management aims for a payout ratio of approximately 60% of free cash flow. That means they aim to maintain a cushion rather than paying out every dollar earned. During weaker commodity environments, this policy helps protect the dividend.

Freehold has also stated that its dividend is sustainable with oil prices well below recent highs. Compared to smaller, highly indebted oil operators, this makes the country relatively resilient.