Three beleaguered oil giants Conservative win may give oil patch a lift.

Over the past five years, Canadian energy stocks have been horrible investments, crushed by a huge price differential between U.S. and Canadian crude, and a federal government that seems bent on eliminating fossil fuels. Most who have wagered on a turnaround in the sector have regretted their decision, but a few shrewd traders have profited from relatively short-term moves, buying after the latest disastrous dip, then selling on the slightest hint of good news. 

For the energy sector, good news ought to come with a Conservative win the upcoming federal election, or less likely, any pre-election plumbs offered to western Canada by the current Liberal government . 

In May federal Conservative leader Andrew Scheer said if elected, his government would establish a cross-country “energy corridor” for oil and gas pipelines, electricity, telecommunications and anything else that runs along the ground. The right-of-way, which Mr. Scheer said would be set up in consultation with the provinces and indigenous peoples, would help achieve his goal of making Canada energy independent by 2030. A Conservative government would also cancel the federal carbon tax, end the ban on tanker traffic in British Columbia, set clear deadlines for regulatory approvals, and disallow foreign interference in the approvals process, Mr. Scheer said. A public opinion poll taken by the non-profit Angus Reid Institute in July showed the Conservatives ahead by 38% to the Liberals 30%.

Energy investors seem skeptical that any of it will take place. The S&P/TSX Capped Energy Index, made up of the 31 largest companies in the industry, spiked to a high near 170 in late April, peaking along with both the Canadian and U.S. oil prices. Since then the index has plunged more than 20% to about 130, roughly where it was during the stock market’s pre-Christmas rout last year. For reference, five years ago the index was above 300.

The gap between Canadian crude oil prices and West Texas Intermediate (WTI) crude widened from about US$14 in late April to US$16 in early August, but this alone does not account for the recent downturn in the index.  

The long-term slump in the industry means that of the roughly 100 publicly traded companies in the Canadian oil and gas sector, more than two thirds now trade at less than their book value per share. Book value is what a company would receive after creditors were paid and its land, buildings and equipment were sold off. For publicly traded companies, book value per share is what common shareholders get after debtors and preferred shareholders are paid. Not surprisingly, companies whose shares trade for less than book value are considered undervalued. The three large Canadian energy companies mentioned here have been particularly hard hit, as their share prices have plunged more than 60% since 2014 to the point where their shares now reflect near complete pessimism about their long-term prospects.

Encana Corp. (ECA/TSX)

In 2009, Encana split into two companies: Encana, initially designed to focus on U.S. and Canadian natural gas production, and Cenovus, which would focus on Canadian oil sands and U.S. refineries. Since then Encana has made several acquisitions and now turns out oil, natural gas and natural gas liquids or NGLs.

Encana has been selling off its less profitable assets or “plays” and has been shifting its assets to its higher margin ones. Encana’s major plays are the Permian, Anadarko and Montney. The Permian stretches across west Texas and southeastern New Mexico, spanning approximately 75,000 square miles. Anadarko, in western Oklahoma, is a major North American shale play, nearly 40,000 feet thick at its deepest portion. Montney spans northwest Alberta and northeast British Columbia. Encana’s other plays include Duvernay in Alberta, Eagle Ford in Texas, Williston Basin in North Dakota and Uinta in Utah.

In late July, Encana reported second quarter net earnings of US$336-million, or US24 cents per share. Non-GAAP operating earnings for the second quarter were US$290-million, or 21 cents per share share, beating analyst estimates of US18 cents per share. Revenue was US$2.06-billion, well up from last year’s US$983-million. 

Through the end of the second quarter, the Company had repurchased 149.4 million of its shares, bringing its total buyback to US$1.037-billion. 

News of the successful quarter caused the shares to jump more than 7% to more than $6, little consolation to those who bought at $10 in late April, nor for those who invested five years ago when Encana traded at $25. At a recent price $6, Encana’s annual dividend of US7.5 cents per share (C9.8 cents) yields about 1.6%. The recent solid results, low yield and payout ratio of less than 10% leaves plenty of room for a dividend increase.

Despite the good news, recent figures from BNN Bloomberg say that at $6, Encana is trading at about 0.6 times book value per share, 5.7 times trailing 12-month earnings per share, 1.1 times trailing 12-month sales per share and less than three times cash flow per share over the past 12 months..

Husky Energy (HSE/TSX)

As an integrated producer, Husky explores for, develops and refines oil and gas products, and has a network of retail outlets. Overall, the company’s portfolio of assets is more than 70% weighted toward natural gas, with assets in western and Atlantic Canada, and off the coasts of China and Indonesia. Husky’s thermal assets include 11 producing sites in the Lloydminster area straddling the border between Saskatchewan and Alberta, with a half-dozen more either under construction or on the drawing board. 

Husky’s downstream operations include an upgrader and an asphalt refinery in Lloydminster, a 35% interest in the Husky Midstream General Partnership, which owns about 1,900 kilometres of pipeline, storage capacity and other assets. Other Husky refineries are in Prince George, B.C. and Lima, Ohio, and a 50 percent ownership in a BP-operated refinery in Toledo, Ohio. Husky also has ethanol plants in Lloydminster, Saskatchewan and Minnedosa, Manitoba. Husky’s retail network includes about 40 Husky House restaurants and 80 cardlock facilities for truckers across Canada.

In late July, Husky reported that in the second quarter of this year it had generated $802-million in funds from operations, with net earnings of $370-million, down from the $448-million reported in the same quarter a year ago. Cash flow was $760-million vs.$1-billion in the second quarter of 2018. The company’s balance sheet remains strong, however, with $2.5-billion in cash, $4.2-billion in unused credit facilities and net debt of $3.7-billion.

It has been more than 15 years since Husky’s shares traded as low as they have been this summer. At a recent price of $10.25, Husky’s shares trade for less than one third of what they were in 2014. The annual dividend of 50 cents a share yields near 5%. 

Recent figures from BNN Bloomberg say that at $10.25, Husky is trading at about 0.5 times book value per share, 7.25 times trailing 12-month earnings per share, 0.5 times trailing 12-month sales per share and just 2.5 times cash flow per share over the past 12 months.

Cenovus Energy (CVE/TSX)

Cenovus develops, produces and sells crude oil, natural gas and natural gas liquids in Canada and the United States. The company’s two producing oil sands assets are Christina Lake, southeast of Fort McMurray, Alberta, and Foster Creek, beneath the Cold Lake military base northeast of Edmonton, both extract oil using steam-assisted gravity drainage, or SAGD.

“We have no mining assets, no tailings ponds and no megaprojects,” the company’s site says.

Cenovus jointly owns two U.S. refineries with Phillips 66: Wood River in Roxana, Ill., and Borger in Texas. Cenovus also operates a crude by rail terminal in Alberta. The Deep Basin segment is made up of about three million acres in northwestern Alberta and northeastern British Columbia, including stakes in several gas processing facilities.

In the second quarter of this year, Cenovus generated more than $830-million in free funds flow, allowing it to reduce net debt to $7.1-billion. 

This year, Cenovus shares have rallied by more than 25%, but the stock is still 35% cheaper than it was a year ago and down 63% from its 2014 levels. There were times in 2011 and 2012 when a share of Cenovus sold for more than $35. These days, a share sells for about $12 and the stock has not traded above $15 since March 2017. Traders have been able to make handsome profits on several occasions. Three times in the past two years, for example, Cenovus shares have dropped to about $10, then rallied to $14 three months later.

At a recent price of $12.15 Cenovus’s annual dividend of 20 cents per share yields 1.6%, with an easily sustained dividend payout ratio of about 16%. At its current share price, figures from BNN Bloomberg show Cenovus is trading at about 0.8 times book value per share, 0.7 times trailing 12-month sales per share and 6 times cash flow per share over the past 12 months.

iShares S&P Canadian Capped Energy Index ETF (XEG/TSX)

For investors who don’t want to take a chance on company-specific risk, this iShares ETF may also rebound in the event of any positive news. The fund itself has shown zero signs of life this year, as you can buy units at about $8.40 each, much cheaper than the $11 or so they were trading at in late April. The fund’s unit price, like the sector itself, has been in a long term slump. Units of XEG were trading for more than $20 in the spring and summer of 2014.

Conclusion

This year, traders may be able to profit again should the sector show any signs of life on signs of a Conservative victory. Then again, maybe Canadian oil and gas really is finished and the industry will die a slow and painful death as we all switch to electric cars and bicycles, and import what little fossil fuels we need. That seems unlikely, but a stake in the Canadian energy sector should only be taken with money you have set aside for speculation.

Note: In my previous article, I erroneously said there is a U.S. withholding tax on Open Text dividends. In fact, there is no U.S. withholding tax on Open Text dividends.

Richard Morrison, CIM, is a former editor and investment columnist at the Financial Post. richarddmorrison@yahoo.ca