Stock Analysis: Encana (ECA)
Notes:
Stock Ratings: 1 = buy at current stock prices, 2 = buy on a 5-10% dip in stock price, 3 = sell on a 5-10% increase in stock price, 4 = sell at current stock prices to raise cash. Ratings are based upon 12-18 month outlook on stock direction and not necessarily related to moves I make due to financial positioning.
Stock Ratings: 1 = buy at current stock prices, 2 = buy on a 5-10% dip in stock price, 3 = sell on a 5-10% increase in stock price, 4 = sell at current stock prices to raise cash. Ratings are based upon 12-18 month outlook on stock direction and not necessarily related to moves I make due to financial positioning.
Encana held a conference call to discuss their capital expenditure plans for 2015 this morning. To my surprise, they actually announced an increase in production on a day where oil stocks appear to have taken a breather from their descent and bounced some - in the case of Encana, at least 10% at one point during the day before settling back down on a 7.4% gain. Was the news really that good, or are we looking at something more deceiving. I'll be honest, I'm not skilled enough to really know. However, I'll break down what I saw and heard and give my thoughts. Then we'll see where things go - at least as long as I hold the stock.
To start with, the capital spending budget starts at $2.7 - $2.9B, which is higher than it was for 2014. Out of this, they expect to have $2.5 - $2.7B in Free Cash Flow (FCF). The focus of 80% of this money is focused on 4 primary, high-margin plays that they've been increasing margin rates on over the last 1.5 quarters. While this all sounds great, there's no real earnings growth here because the price for oil and NGLs is down that much. From what I've been able to estimate, we're looking at essentially flat earnings expectations from 2014. Production growth is focused on 4 plays, as I've already stated. All 4 of those plays are also oil-based. In 2015, management expects that 25% of all production will come from oil prodution and that production will equate to 60% of FCF. Meanwhile, 65% of the production will be Natural Gas, but it will only equate to 25% of FCF. This is me, just realizing how much of an impact oil has on this company now. I used to think that gas prices that haven't dropped like Oil has will protect the company, however, these stats refute that. Oil prices are a huge impact.
To start with, the capital spending budget starts at $2.7 - $2.9B, which is higher than it was for 2014. Out of this, they expect to have $2.5 - $2.7B in Free Cash Flow (FCF). The focus of 80% of this money is focused on 4 primary, high-margin plays that they've been increasing margin rates on over the last 1.5 quarters. While this all sounds great, there's no real earnings growth here because the price for oil and NGLs is down that much. From what I've been able to estimate, we're looking at essentially flat earnings expectations from 2014. Production growth is focused on 4 plays, as I've already stated. All 4 of those plays are also oil-based. In 2015, management expects that 25% of all production will come from oil prodution and that production will equate to 60% of FCF. Meanwhile, 65% of the production will be Natural Gas, but it will only equate to 25% of FCF. This is me, just realizing how much of an impact oil has on this company now. I used to think that gas prices that haven't dropped like Oil has will protect the company, however, these stats refute that. Oil prices are a huge impact.
Which takes me to my final take-away. All things discussed are based on an estimated price of $70 oil and $4 Natural Gas. They rate the production costs for the major-focus plays to be <$55 and would make a margin of $20 at those rates - which sounds completely reasonable. Not as much profit as they have been, but still profitable and legitimate to maintain the production levels they describe. However, the problem is that as of today's close, oil is just over $55 and gas closed at $3.63 - both numbers below next year's estimates. Clearly it's still 2014 and even if we start at those prices in 2015, things could rebound. There are plenty of pundits and analysts that believe it is over sold now and will go back up - including a call from Boone Pickins that oil will go back to $100 (though he didn't say in 1 year's time). However, yesterday the CEO of Honeywell had an interview in which he stated that oil prices should've dropped back with our recession, but it didn't. Now it's finally down there and the economy could possibly grow at a better rate.
All in all, I'm not feeling extremely comfortable with what we're looking at. The company will do whatever they need to in order to keep a strong balance sheet and if prices stay in the 50s or lower over the first quarter of 2015, I expect this expenditure plan will be cut back. I'm still also overweighted in the energy sector and I don't feel that's the right position for me to be in. There's potential for this to recover some of its losses, but I also don't feel that this bounce we saw today is going to last a long time if oil prices drop more. I wish to keep an eye on the stock for a little while. We may be near a bottom, there may be farther to drop - I just don't know. Without signs of actual growth in oil prices, though, I don't expect the stock to keep such a high multiple. For now, watch how things play out, see if you can get some more pop and sell if you need to raise cash for better purchases.
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