Write Off Encana at Your Own Peril

Canada's Encana (NYSE: ECA  ) failed to ink a lucrative $5.5 billion deal with Chinese petroleum giant PetroChina (NYSE: PTR  ) last week. But that's because it knows that it can get a better deal for its Cutback Ridge shale assets in British Columbia.

Encana won't shed tears
Big energy companies are predicting an imminent boom in natural gas demand, and as a result many deals have centered on the Canadian oil sands. This deal could have been the largest ever struck by a Chinese company in Canadian natural resources, but it won't be the last attempt.

Encana has been struggling lately, but these problems appear to be temporary. Profitability has been low because of low price realizations of natural gas. Comps are bad, and that does not make for great financial statement reading. But that is temporary. Writing off Encana completely would be premature.

Why it is still too good
In 2010, the company's proven natural gas reserves increased by approximately 20% with a total of 13.3 trillion cubic feet at the end of 2010. However, with 49% of it yet to be developed, things do look challenging for the company unless it strikes up one or two joint ventures. It shouldn't be too difficult to bag a better deal in the near future.

Future cash flows now stand at $11.4 billion -- a significant 35% jump from the year before. This includes approximately $3 billion worth of discoveries, extensions, and revisions to estimates.

How is the stock valued?
This is how Encana stacks up compared to its peers:

Company

P/E

(TTM)

EBITDA Margin

(TTM)

TEV/EBITDA

(TTM)

P/B

Encana 16.6 53.1% 5.5 1.4

Chesapeake Energy

(NYSE: CHK  )

13.3 35.1% 8.2 2.7

Devon Energy

(NYSE: DVN  )

20.6 55.8% 7.5 1.7

Southwestern Energy

(NYSE: SWN  )

17.2 23.9% 6.8 1.5

Petrohawk

(NYSE: HK  )

31.5 43.3% 10.1 2.1

Source: Capital IQ, a Standard & Poor's company. TTM = trailing 12 months.

Encana has the most compelling figures in the table. While the stock currently looks undervalued, it also reveals tremendous potential for growth. EBITDA margins back that up. Assets, too, look undervalued, possibly because of a substantial portion of reserves being undeveloped.

Foolish bottom line
Encana has a long way to go. But this is probably the best time to grab a handful of its shares. I believe that once the company enters into a JV and market conditions improve, this stock will soar. Think otherwise? Shoot your comments below.

Fool contributor Isac Simon does not own shares of any of the companies mentioned in this article. The Motley Fool owns shares of Devon Energy. Motley Fool newsletter services have recommended buying shares of Chesapeake Energy. Motley Fool newsletter services have recommended writing puts in Southwestern Energy. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 05, 2011, at 12:20 PM, richard4850 wrote:

    You are wrong on the numbers. I own CHK and the book value is around 1.5.

    Wonder how accurate your other numbers are.

    Also, ECA sells natural gas in the U.S. which is its biggest customer. The problem for ECA is that the U.S. gas production is increasing every year.

    LNG sales are probably 5 years away so for the next 3-4 years this producer will probably see less demand for its gas as the companies on your list produce more and less distance to ship their gas to U.S. customers. Also, many utilities would rather enter into contracts with local producers than foreign producers, so I see companies like Devon and CHK taking advantage of ECA.

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