Can the Husky Integration Help Cenovus?…

Cenovus Energy is a large integrated oil and gas company based in Canada. The company owns oil sands projects in northern Alberta as well as natural gas and oil fields in Alberta and British Columbia. It also owns a 50% stake in two U.S. refineries. Cenovus’ portfolio of assets got a boost with the acquisition of most of ConocoPhillips’ operations in Western Canada in 2017.

Cenovus Energy sells oil to industrial users, wholesalers, and commodity purchasers, all around the world. An extensive network of pipelines, rail, and marine tankers transport the company’s products. A vast portfolio of oil sands assets and Deep Basin natural gas and liquids assets in Western Canada should support production growth. The company’s reportable segments are oil sands (~48% of 2019 revenues), deep basin (~3%), refining and marketing (~52%), and corporate (~-3%).

Investment Data

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Revenue Growth & Market Exposure

Cenovus formally came into existence in 2009 as a result of a spin-off from Encana but has a history dating back to the 1880s. An integrated business model continues to generate significant value through its refining and marketing activities along with its top-tier asset base and low-cost structure. Cenovus’s stake in U.S. refineries mitigates the risk of heavy oil differentials. Moreover, the acquisition of most of ConocoPhillips’ operations doubled Cenovus’ oil sands production. Premium asset quality, executional excellence, an integrated model, and a strong reputation are Cenovus’s key competitive strengths.

Canadian energy companies have faced a tough last year. Crude oil demand continued to be negatively impacted by the effects of the COVID-19 pandemic on one hand, while production cuts by leading oil companies also decreased the global supply of crude oil on the other. Total production from Cenovus’s upstream assets averaged ~472,000 BOE per day for the quarter ending September and refineries processed an average of 382,000 gross barrels per day of crude oil feedstock.

Cenovus stands a good opportunity to consolidate its position from the Husky acquisition which will result in the creation of one of the largest Canadian integrated energy producers with high-quality, low-cost heavy oil assets and extensive midstream / downstream infrastructure. It will also reduce exposure to Alberta heavy oil price differentials. Cenovus also implemented a new five-year business plan that should deliver ~$11 billion in cumulative free funds flow through 2024, using mid-cycle commodity prices.

Dividends

Cenovus Energy has been paying dividends since 2009. However, the rate of growth has been slow due to the challenging times being faced by the energy industry. The company announced a 25% dividend increase effective in the fourth quarter last year. Cenovus, however, announced a temporary suspension of its dividend in response to the low global crude oil price environment in April. There was no dividend payment in 3Q’20.

Cenovus and Husky Energy are combining to create an integrated Canadian oil and natural gas company. Husky Energy is a Canadian integrated oil and gas company with operations in Western and Atlantic Canada, the U.S., and the Asia Pacific region. The transaction is expected to be accretive immediately resulting in $1.2 billion in cost and capital synergies and increase free funds flow. The combined company will operate as Cenovus Energy. The company anticipates an annual run-rate synergy of $1.2 billion to be achieved within the first year itself, a quarterly dividend of $0.0175 per share, and consistent growth. The combined assets will also provide cash flow stability. Further, Cenovus expects to fund its near-term cash requirements through cash generated from its operating activities. While the acquisition will result in cost savings on production and operational performance, it will also lead to an increase in the overall debt levels.

Cenovus is also in a process of deleveraging its balance sheet by selling its legacy conventional assets which will streamline its portfolio. Its long-term net debt target is $5 billion. Cenovus has reduced its capital investment plan and operating costs for FY 2020. The company is focusing on mid-term strategies to broaden its market access for crude oil production and on new pipeline projects connecting it to new markets in the U.S. and globally. Cenovus is also developing new pipeline projects in Western Canada that will provide access to new buyers.

Competition

The Canadian and international petroleum industry is highly competitive. Cenovus competes with other large Canadian energy giants including Suncor Energy, which is the largest oil producer in Canada, Canadian Natural Resources which is a large independent natural gas and heavy crude oil exploration and production company in Canada, and Imperial Oil which is another large integrated energy company. Moreover, oil companies are subject to fluctuating commodity prices, and government and global regulations. There is uncertainty regarding the future actions of big oil-producing nations that may also lead to increased commodity price volatility.

Bottom Line

Covid-19 has hurt the overall energy demand globally and the commodity price environment will remain highly uncertain especially with concerns around the second wave of COVID-19 infections. Cenovus Energy’s acquisition of Husky Energy is expected to deliver increased and stable cash flows supporting the investment-grade credit profile and delivering value accretion for shareholders. However, with Biden becoming the new President-elect, more focus on climate change could mean bigger challenges for energy companies like Cenovus.