E&P business does not deserve top valuation vs. large-cap peers
Goldman Sachs' Rating/Coverage View is Sell/Neutral
May 23, 2007
What's changed
EnCana shares have risen 17% in the last month versus a median gain of 7% for our coverage universe, and we attribute much of the outperformance to rumors of changes to corporate structure via a takeout by Total, spinoff of oil sands assets or creation of Master Limited Partnerships for US assets.
Implications
We believe EnCana remains overvalued relative to other E&P stocks when adjusting for the company’s oil sands business. We continue to rate EnCana Conviction Sell relative to a Neutral coverage view. We believe Total is less interested in additional oil sands assets, less interested in a major North American onshore gas position and more interested in downstream solutions for existing oil sands projects. On an oil sands spinoff, we would not be surprised to see EnCana look to monetize a stake of its interest in the joint ventures, but we do not see willingness on the part of Conoco for a spinoff of at least the downstream half of the two JVs. Fundamentally, EnCana does not rank favorably versus other large-cap E&Ps on key metrics longer-term: production growth, production growth per share, free cash yield, and cash on cash returns.
Valuation
Assuming a US$15 per share value for oil sands, which represents parity with Suncor Energy’s valuation, EnCana’s E&P business is valued the richest among large-cap E&Ps, trading at a premium even to XTO Energy. We do not believe this is deserved. We see 15% in relative downside (23% absolute downside) to a revised $48 ($47 before) discounted cash flow based 12-month target price, which would value EnCana’s E&P business at parity with EOG Resources.
Key risks
Key risks include commodity price volatility, drilling results, weather, and cost pressures. |
