Is Selling These Gas-Rich Assets a Good Move for Encana Corporation?

Encana (NYSE: ECA  ) , one of Canada's largest energy producers, recently said it plans to sell some of its natural gas properties in Wyoming to a private equity firm. The company's move is part of its new strategy, which seeks to improve shareholder returns by focusing on more profitable liquids production while divesting less profitable gas-rich assets. Let's take a closer look. 

Source: Anadarko Petroleum Corporation.

Encana to sell gas-rich Wyoming assets
On Monday, Encana announced it will sell its stake in certain natural gas properties located in Wyoming's Jonah field in Sublette County to Texas-based private equity giant TPG Capital for $1.8 billion.

Encana's acreage in the Jonah field comprises a producing area of about 24,000 acres, which includes 1,500 active wells and proved reserves totaling approximately 1,493 billion cubic feet equivalent (Bcfe) as of year-end 2013. The transaction also includes an additional 100,000 undeveloped acres in the Normally Pressured Lance (NPL) area, which lies adjacent to the Jonah field.

The deal is expected to close in the second quarter of this year, subject to customary closing conditions and regulatory approvals. Encana plans to use the proceeds from the sale for general corporate purposes, including paying down debt, acquisitions, and capital investment.

What impact will it have?
Though the deal's price tag was slightly lower than analysts had expected, it still looks like an incremental positive for Encana because it will further bolster the company's balance sheet and allow it to reduce its long-term debt, which stood at $6.1 billion as of year-end 2013. It also fits well with the company's strategy of divesting less profitable gas-rich assets and focusing on liquids-rich opportunities.

This year, Encana plans to allocate roughly 75% of its capital budget toward five core liquids-rich plays, including Canada's Montney and Duvernay shales, Colorado's DJ Basin, New Mexico's San Juan Basin and the Tuscaloosa Marine Shale in Louisiana and Mississippi. These plays helped drive an 82% year-over-year increase in fourth-quarter liquids volumes, which averaged 66,000 barrels a day.

Encana is just one of several energy producers seeking to reduce their exposure to dry gas and boost liquids production. For instance, Chesapeake Energy (NYSE: CHK  ) is spending the largest portions of its capital budget on liquids-rich drilling in the Eagle Ford shale, the Greater Anadarko Basin, and Ohio's Utica shale, while Devon Energy (NYSE: DVN  ) has curtailed dry gas drilling and is concentrating almost exclusively on liquids-rich opportunities in the Permian Basin and the Eagle Ford, which are expected to drive significant growth in cash flow this year.

Even Ultra Petroleum (NYSE: UPL  ) , a predominantly gas-focused producer like Encana, is shifting away from dry gas drilling. Last year, the company shelled out $650 million to scoop up oil-rich assets in Utah's Uinta Basin, where recent drilling results have exceeded even the most optimistic expectations. With expected returns in Utah of around 500%, Ultra foresees 40% growth in EBITDA and cash flow this year.

What's next for Encana?
Encana's new strategy, which involves selling off non-core assets, cutting spending wherever possible, improving capital efficiency, and boosting liquids production, is off to a good start. The company's balance sheet and liquidity position have improved markedly, while liquids production has risen sharply in just a matter of months.  

By 2017, Encana expects to generate 75% of its upstream operating cash flow from liquids. If Encana can successfully navigate this transition toward liquids, cash flow growth should accelerate sharply over the next few years. Assuming wellhead gas and oil prices of $4 per Mcf and $90 per barrel, respectively, Encana expects to deliver 10% compound annual growth in cash flow per share through 2017.

Still, delivering on these promises won't be easy and will depend crucially on the company's ability to deliver solid performance from its five core liquids-rich plays. That's why investors should keep a close eye on the company's progress in these plays, including appraisal results, drilling economics and capital efficiency improvements, and the rate of liquids production growth. 

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