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EnCana Splits in Two12 May 08EnCana has decided to split its oil and gas business into two distinct entities in order to become more flexible and to realise value it believes is not being recognised by the market in its current guise.
Canada’s largest energy company, EnCana, has decided to undergo a strategic reorganisation of its business that will see the firm split into two separate halves. While one side will continue to trade under the EnCana brand and work on developing the huge potential in its natural gas assets, the other will work on developing its oil sands production and refining business. Under the current court-approved Plan of Arrangement, EnCana’s oil sands and refinery business will be named IntegratedOilCo (IOCo) and be managed by Brian Ferguson—EnCana’s current chief financial officer. The company’s gas operations, meanwhile, will trade under the GasCo name, and be under the leadership of current EnCana chief executive officer (CEO) Randy Eresman. Meanwhile, EnCana’s shareholders will receive one share in each of the two new companies in exchange for each of their current shares in EnCana. Although the company has highlighted a range of benefits that are expected to accrue as a result of the split, two in particular stand out—namely:
The expectation is that as each company will be allowed to specialise in very specific areas under the leadership of experienced managers, they will benefit from efficiency gains due to increased flexibility that should eventually boost aggregate returns by a greater extent than would have otherwise been possible under the company’s current structure. IOCo IOCo will incorporate the company’s oil sands activities in Canada as well as refineries in the United States. The new oil entity will, however, also include some of the more mature shallow natural gas plays, to help with oil sands production and act as an insurance against high gas prices. Under a deal first announced back in October 2006, EnCana and ConocoPhillips agreed to form a partnership whereby the two companies would jointly run an integrated energy business comprising Foster Creek and Christina Lake upstream, and ConocoPhillips's Wood River and Borger refineries located in the respective U.S. states of Illinois and Texas. That deal was made in expectation of greater Canadian oil sands output in the years ahead, as well as the anticipation that most of this additional heavy crude would find its way into the U.S. market—the largest oil market in the world. With several energy companies now seeking to tie up upstream oil sands production with downstream refining capacity in the United States, the EnCana/ConocoPhillips deal was certainly an early preview of what is effectively now a general trend. Under the joint stewardship of IOCo and ConocoPhillips, total oil sands production from the Foster Creek and Christina Lake projects is expected to jump by an impressive 200% over the next few years, from around 60,000 b/d currently to 220,000 b/d by 2012. Over the next decade, output from these projects could hit as high as 400,000 b/d, with associated expansion of downstream U.S. refining capacity doubling total throughput to 510,000 b/d. IOCo is aiming for yearly output growth of between 4% and 6%, and expects cashflow to be healthy enough to not just generate respectable dividends, but also allow the company to engage in a share buyback programme—something that many cash-rich energy companies have been doing in recent times, thanks to both high oil prices and a relative dearth of worldwide investment opportunities. GasCo GasCo will meanwhile retain the rest of EnCana’s current slate of conventional and unconventional natural gas projects, making it the second-largest producer of gas in North America, with current annual output of 3.1 bcfe/d. GasCo is targeting a somewhat more aggressive annual growth profile than IOCo of between 7% and 9%. The company’s gas asset plays are located across the continent, from Alberta, British Columbia, and Nova Scotia’s offshore regions in Canada, to Colorado, Louisiana, Texas, and Wyoming in the United States. All remaining international and midstream EnCana assets will also be retained by GasCo. As with IOCo, the downsized company expects healthy cashflows and intends to issue good dividends while also buying back shares. Outlook and Implications In explaining the rationale behind its decision to split its operations, EnCana has pointed towards its belief that investors as a whole have so far failed to recognise the inherent value tied up in its oil sands assets, with the result that the company as it currently stands has lagged behind in valuation terms, compared to its peers. As such, the hope is that the reorganisation will allow both sides of the business to benefit from their exclusivity of focus, and thus allow for increased aggregate worth. Less obviously perhaps, and despite healthy growth over the last several years, there may have also been internal pressures within management arising from the company’s sheer size, which in turn may have resulted in a relative failure to properly allocate resources—itself a key management aim. If this view is accurate, splitting the company up may have been calculated as the best way of not just making its operations more manageable, but also releasing additional sums of capital that are not currently being recognised. Given the capital-intensive nature of the oil sands business for example, where the complex projects can easily run into the billions of dollars, the availability of funds is a crucial ingredient in helping to ensure that future output expansion plans do not fall by the wayside. Whatever the case, it is clear that EnCana feels that it is worth less than the sum of its parts. The break-up is expected to conclude during 2009 following the receipt of all necessary approvals from regulators, shareholders, and other authorities. |
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