The oil rout continues to take its toll on Canadian energy companies, but contrarian investors are starting to kick the tires on some of the more popular stocks.
Let’s take a look at Canadian Natural Resources Limited (TSX:CNQ)(NYSE:CNQ) and Encana Corporation (TSX:ECA)(NYSE:ECA) to see if one is a better pick right now.
Canadian Natural Resources
CNRL started off 2015 in the market’s good books because the company raised its dividend when most other producers were slashing payouts. That move provided extra support for the stock through the second quarter, but things have gotten a bit ugly since then.
CNRL reported a massive loss of $579 million for Q2 2015, and suddenly the market realized that it too is vulnerable in this volatile market. Management pinned the blame on the Alberta government’s tax hike and said earnings would have been $174 million without the rate increase. That may be so, but there are other concerns investors should watch out for.
The company had Q2 cash flow from operations of $1.5 billion and spent $1.3 billion on capital projects, so revenues were enough to cover the required investments. But the company also handed out $503 million in dividends, which means it had a $300 million shortfall that had to be paid for using borrowed money.
This is a regular occurrence in the oil patch, but investors have to ask themselves how long the distribution can last, especially when oil prices are significantly lower now than they were during the second quarter.
On the positive side, CNRL owns a fantastic portfolio of diverse assets spanning the entire spectrum of the oil and gas market. The company is also in the enviable position of owning 100% of most of its properties, so it can quickly move capital around to the best opportunities.
Management has done a great job of reducing costs through the downturn, and the company maintains a very healthy balance sheet. The dividend might not last, but CNRL will be one of the companies left standing when the rout has run its course.
Encana Corporation
Encana is in a more difficult situation. The company made some ill-timed acquisitions at the height of the oil market, and these deals saddled the company with a huge debt load. That would have been fine if oil had stayed near $100 per barrel, but the plunge in crude prices has forced management to work hard to get the debt down and avoid a cash crunch. So far, they are doing a decent job, but risks still remain.
Encana finished Q2 2015 with US$6.1 billion in long-term debt. If you strip out the $500 million in cash and cash equivalents, you still have a significant debt load for a company with a market cap of US$6 billion.
Encana just announced a US$1.3 billion deal to unload its natural gas assets in Louisiana, so that will help take some pressure off the balance sheet.
The main concern right now is the company’s cash flow. Guidance is set at US$1.4-1.6 billion for the year, but the company only brought in $676 million in the first six months. Oil prices are much lower now and natural gas isn’t doing well either, so the expectations might be a bit ambitious.
At the same time, capital expenditures are projected to be $2-2.2 billion for the year. The company spent just under $1.5 billion in the first six months, so the second half is going to be pretty tight on the spending side if Encana wants to stay within its guidance.
Which should you buy?
If you are an oil bull, CNRL is a safer bet, but Encana probably has more upside potential if oil rallies. Having said that, I would avoid both names until oil is clearly in a recovery stage. Right now, there are better places to put your money.
