EARNINGS ARE A REASON FOR OPTIMISM
Oilpatch companies are showing confidence in future
It might sound cliche, but when it comes to the 2016 oilpatch earnings parade, what a difference a year makes. Especially if you happen to be Encana.
The natural gas weighted producer on Thursday reported decent results for 2016; its fourth-quarter numbers offering reason for optimism. That’s not what the market expected this time last year when its stock — then trading at $5.33 — had been downgraded to underperforming.
Analyst reports then were unforgiving, saying the company needed more cost reductions, higher commodity prices or a significant asset sale to position it for long-term sustainability. There was even speculation it could become a takeover target.
On Thursday, Encana’s shares closed at $16.29. Its full-year numbers showed a loss of US$928 million, or $1.07 a share, compared with a loss of US$5.2 billion or $6.28 a share in 2015.
The 2016 results included a ceiling test writedown of US$938 million, which reflects the economic value of the assets in this pricing environment. When prices recover, the asset value can be appropriately changed.
The story with Encana, as with many energy sector companies, is one of cost cutting. Whether it’s through well optimization, more effective drilling and completion techniques or finding ways to trim excess costs, Encana is well positioned to benefit from higher commodity prices.
But, cost-cutting — like being on a diet — needs to be sustainable, and the challenge heading into a stronger market is whether the lower cost structure can be maintained as companies start hiring and competing for labour.
There have been other times when costs have run away and companies vowed it wouldn’t happen again when conditions improved. Encana chief executive Doug Suttles said Thursday that the cost cutting was sustainable, but the real answer to that won’t be evident until this time next year.
One take-away from Encana’s results is its continued allocation of capital spending south of the border. Much like 2016, most of the estimated $1.6 billion to $1.8 billion to be spent this year is earmarked to its assets in the Permian and Eagle Ford basins. It’s not alone. Imperial Oil has also pulled back on spending in Canada — its lowest amount in a decade — in what should be seen, on both counts, as a lack of confidence in the regulatory and fiscal regimes in Alberta.
When new projects that mirror existing operations take longer to approve than the initial one, it’s no surprise companies choose to spend their capital in jurisdictions where it can start earning a more timely return.
In Imperial’s case, this means, in part, sitting on the sidelines until there is more clarity on the province’s 100 megatonne emissions cap, which has the potential to affect future oilsands investments.
Looming tax changes in the United States, in addition to the easing of exploration and development restrictions, means Canada will have to work harder, particularly with companies that can look elsewhere — to make the case for investing in the oilpatch.
It shouldn’t be lost on anyone that both Enbridge and TransCanada, which also reported 2016 earnings Thursday, have turned south of the border for growth opportunities.
As was pointed out on TransCanada’s conference call, it has faced significant challenges to get so-called greenfield, or new, pipelines built, not just in Canada but also the U.S. northeast. For customers wanting certainty of supply, companies with robust networks such as TransCanada or Enbridge stand to benefit.
One comment on TransCanada’s earnings call referenced opportunities that exist to leverage its mainline to the benefit of customers in the U.S. northeast.
Like Encana, the outlook for TransCanada, with the revival of the Keystone XL project and its purchase of Columbia Pipelines last April, is markedly different than a year ago, even as questions surround its unused capacity into Eastern Canada.
For 2016, TransCanada reported adjusted earnings of $2.1 billion, compared with $1.8 billion in 2015. The 2016 results included a number of writedowns, including a $176-million after-tax hit resulting from its decision last May to terminate its power purchase arrangements.
That contrasts with last year’s fourth-quarter earnings call when the company took a $2.9 billion writedown on its KXL investment and its stock was trading at $48.24. Those shares closed Thursday at $62.22.
Compared with where things stood a year ago — stock markets swooning amid global economic uncertainty, oil prices trading just under US$30 and natural gas in both Canada and the U.S. below $2 per thousand cubic feet — this earnings season carries a measure of optimism.
Both Encana and TransCanada tapped the equity markets in 2016, which was entirely impossible in 2015. Encana raised US$1.25 billion and TransCanada almost $8 billion Cdn. in two separate transactions.
In as much as 2016 results will reflect the challenges that persisted through the year, oilpatch companies are also showing confidence in the future, with increased capital expenditures the leading indicator.
Green shoots anyone?