Cenovus Energy Inc. (TSX:CVE) is a $40 billion oil and gas company that’s ramping up its production, growth, and shareholder returns. In fact, the company is likely to continue to drive shareholder value even in lower oil price environments.
Let’s take a look.
Cenovus – the current dividend is only part of the story
With high quality and low-cost oil sands and heavy oil assets, as well as midstream and downstream infrastructure, Cenovus is well-positioned in this $70 oil price environment. As oil prices remain high, Cenovus Energy continues to accumulate cash. This has resulted in a significant improvement in cash flows, its balance sheet, and shareholder returns.
This was clearly evidenced in the company’s latest quarter (Q3/24), where its operational strength was on full display. This strength resulted in $600 million in free cash flow and a return of $1.1 billion of cash to shareholders. It also resulted in debt repayments, which meant that the company hit its net debt target of $4 billion earlier than expected.
Looking ahead, management is aiming to return 100% of excess free funds flow to shareholders over time. Today, Cenovus stock is yielding 3.3%. But the dividend is likely to grow, and these growing payments are the story of Cenovus stock.
Increasing shareholder returns
The potential for Cenovus’ dividend is significant. This is being driven, in large part, by projects like the company’s Newfoundland and Labrador offshore oil project, West White Rose. These growth projects that are still under development will be largely completed in 2025. This means that there will be a significant reduction in capital spending with the projects coming into production.
West White Rose will be a big contributor to cash flow in a couple of years, as it shifts from consuming approximately $1 billion per year in cash to generating more than $1 billion in cash. In the latest quarter, Cenovus’ free cash flow margin came in at 4.3%. This means that 4.3% of the company’s revenue was converted into free cash flow. It’s a measure of profitability and for the capital-intensive oil and gas industry, a 4.3% margin is quite respectable.
Yet we can expect this number to increase and increase dramatically over the next couple of years as cash flows are expected to increase significantly. In fact, the company is growing its base dividend capacity to $2 billion, with double-digit annual base dividend growth capacity.
Cenovus stock: Upside to valuation
So far this year, Cenovus stock has been stuck around the $22 level. It’s almost doubled from pre-pandemic levels. The stock trades roughly in-line with its peer group, but I would argue that the significant growth that’s expected warrants a higher valuation.
The company has lowered its cost structure and invested in growth, and it expects a significant ramp up in cash flows in the next two years as a result. Furthermore, Cenovus can fully fund its base dividend and sustaining capital expenditures at an oil price of $45. With oil currently trading at $70, this gives it good downside protection.
The bottom line
So, in summary, not only is Cenovus stock a buy for its current dividend, but also for the expected growth of this dividend. Cash flows are ramping up and management is committed to returning much of this to shareholders. Yet, the stock remains stuck at approximately $22.
