Encana's Plant Sales - Calculated Corporate Gamble
Eric is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Sagging natural gas prices have been tough for Encana. They have experienced five consecutive quarters of negative free cash flow, which means they are unable to pay their capital expenses with their cash flows from operations. Inability to invest in capital is a death spiral for businesses in natural resource extraction. Capital is needed to produce money, money is needed to purchase capital – the only way out is exactly what Encana is doing, asset sales and divestitures.
Encana Corp. (NYSE: ECA) is Canada’s largest natural gas producer. Yesterday, they entered an agreement to sell their Steepbank and Hythe gas processing plants to Veresen Inc. (TSX: VSN). Veresen beat a bid from Enbridge Inc. (NYSE: ENB) for the plants.
Encana maintains some interest in the plants even though they will no longer have any ownership. They have agreed to provide 370 million cubic feet of gas per day to plants from their Cutbank Ridge field. The plants have a combined capacity of 516 million cubic feet of gas per day, meaning Encana is providing 70% of the capacity.
The sale of the plants will reduce the amount of capital expenses paid by the company and bring in a much needed cash flow of $911 million.
Encana has sold $3.5 billion in assets this year. Not all of it has gone to covering expenses and improving the balance sheet. Encana invested $770 million to drill about a dozen prospecting wells on their 2.1 million acres of land. The company is in search of organic liquids, which command considerably higher margins than natural gas. The company is steadily increasing its exposure to oil and divesting its capital intensive natural gas components as its central strategy.
Strategy may be a loosely used term. Encana is running short on alternatives. It is unlikely the company can trim enough expenses to return to profitability with the current state of natural gas prices. Investing in developing new fields is a gamble, but a risk the company is forced to take.
The author holds no financial interest in any of the company's mentioned.