The recent decline in the oil and gas sector has created many opportunities in stocks that have excellent assets, excellent fundamentals, but have been hit due to the carnage in oil prices. While the decline in oil prices is likely to hit all oil and gas companies, there are some stocks that are trading at very attractive levels for long-term exposure.
In particular, there are some stocks that have good assets and have a very sound balance sheet. This will help these companies see through the crisis with relative ease as compared to highly leveraged companies. Encana (ECA, Financial) is among few stocks that I am bullish on for the long term. I have been bullish on the stock earlier, and I maintain my view.
In this article, I will discuss the company’s guidance for 2015 and the positive factors in the guidance that make me bullish on the stock. Before talking about the guidance, I want to mention here that Encana is trading at an EV/EBITDA valuation of just 2.68, which is very attractive from a long-term perspective. Investors can therefore consider accumulating the stock at current levels.
Coming to the company’s capital expenditure guidance for 2015, Encana has an investment program of $2.7 billion to $2.9 billion for 2015. In terms of allocation of funds, 80% of the investment will be directed towards four of its highest margin growth plays; the Montney, Duvernay, Eagle Ford and Permian.
I believe that a capital expenditure of $2.8 billion is significant in the current oil price environment. However, I also believe that the company will lower its capital expenditure guidance in the coming months. The reason is that the guidance was released on December 16, 2014. However, oil prices have declined significantly since that time, and a revision in investments is likely.
To put things into perspective, Encana expects total cash flow of $2.5 to $2.7 for 2015. The cash flow is however expected at $70 oil. Oil is currently at $50 per barrel levels and therefore a revision is likely in the company’s cash flow estimates in the coming months.
With Encana planning to take no debt in 2015, the capital expenditure has to be cash flow funded. Further, Encana expects proceeds from assets sales to the amount of $800 million in 1Q15. This will also aid in the capital expenditure investments. The point is that even with oil at $50 per barrel, Encana is well positioned to invest in excess of $2 billion in 2015 (including $800 million from asset sales).
Even if the company lowers its production and investment target for 2015, Encana will have a good cash position to invest heavily when oil prices recover. In my view, Encana can potentially trim down 2015 investment levels to $2 billion from the current $2.8 billion. The reason is that every $10 drop in oil prices is likely to have an impact of $400 million on the company’s cash flow. Even if $50 per barrel oil is assumed, Encana’s cash flow is likely to be in the zone of $2 billion (also taking into consideration the company’s hedged positions).
From an asset perspective, there is no doubt that the Permian, Eagle Ford, Montney and Duvernay are all rich assets with a long drilling inventory. Therefore, the only concern is related to recovery in oil prices. While recovery in oil prices is certainly not expected to come quickly, Encana is certainly worth accumulating at current levels.
