Encana Corporation (TSX:ECA)(NYSE:ECA) is undergoing one of the energy industry’s biggest transformations and investors are wondering if this is the right moment to start a new position in the stock, or get out while there’s still time.
Let’s take a look at Encana to see which side of the fence you should be sitting on.
History lesson
In 1881, the Government of Canada gave Canadian Pacific Railway 25 million acres of land as partial payment to build a rail line that would connect Canada from east to west. Some of the land included surface and mineral rights.
Two years later, a team of CPR workers accidentally discovered Alberta’s first natural gas field while drilling for water near Medicine Hat. That moment eventually led to the creation of the company that grew to become Encana Corporation.
We don’t have enough space here to go through the whole story, but let’s just say the timeline is peppered with the buying and selling of assets located all over the map. The company owns, or has owned, resource plays running from the great Canadian North right down to the jungles of South America, as well as a few forays in the Gulf of Mexico and the North Sea.
To this day, the game of musical assets continues.
A new Encana
Doug Suttles took over the top job in June 2013 and is the mastermind behind Encana’s latest incarnation.
To say he has been busy is an understatement. Suttles sold off billions in gas assets and royalty properties, and then spent billions more on promising oil and natural gas liquids plays. He also reduced the company’s head count by 25%.
His largest deal to date is the US$7.1 billion acquisition of Athlon Energy Inc., which closed in late 2014. Suttles negotiated the purchase when oil prices were still riding high, and some analysts are concerned the massive takeover might have been a big mistake.
Through all the chaos, Suttles has remained unfazed and is sticking to his plan. You certainly can’t knock the guy for his determination and positive outlook.
The market really liked what it saw during the first 12 months of Suttles’ tenure, and drove the stock up by more than 30%. Since then, things have been pretty ugly.
Encana’s shares traded above $26 last June. Today they are lingering below $14—and therein lies the dilemma. The market has little doubt about the quality of Encana’s leadership, or the value of the company’s assets, but investors have no idea when energy prices will rebound to the point where the company and its shareholders can reap the rewards of the efforts of the past two years.
Encana has significantly reduced capital expenditures for 2015 to $2-2.2 billion, but management still only expects cash flow of $1.4-1.6 billion. The company plans to use $800 million from a previous asset sale to make up the difference in the cash flow shortfall and cover the dividend.
Encana also just raised $1.25 billion through an equity issue. The funds will be combined with existing cash to redeem about $1.45 billion in debt that is due in 2017 and 2018.
Should you buy?
Encana’s revised 2015 cash flow guidance assumes WTI oil prices of $50 per barrel and NYMEX natural gas prices of $3 per million British thermal units (MMBtu). At the time of writing, oil is trading below $44 per barrel and natural gas is $2.82/MMBtu.
Encana’s stock trades at 18 times forward earnings and 0.8 times book. That could draw in some investors, but the company also finished 2014 with US$7.8 billion in long-term debt and only has a market cap of about $11 billion.
At this point, I would avoid the stock. Suttles and his team are doing their best in a tough environment and you have to give them credit for putting on such brave faces, but the debt load is a bit heavy and oil prices still seem determined to drill down to new lows.
