DBRS Confirms Canadian Natural Resources Limited at BBB (high) with Negative Trends

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Unsecured Long-Term Debt rating of Canadian Natural Resources Limited (CNRL or the Company) at BBB (high) and the Commercial Paper rating at R-2 (high). All trends remain Negative. The rating confirmations are based on CNRL’s (1) long-life low decline reserve base, (2) leading position as a low-cost operator in oil sands and conventional oil and gas in Canada, (3) capital spending flexibility and (4) extensive and diverse asset base with significant growth potential. The trends were changed to Negative in January 2016 as a result of DBRS’s portfolio review (see DBRS Reviews Ratings of Oil & Gas Portfolio, January 29, 2016) and account for the deterioration in the Company’s key credit metrics below the BBB category, largely driven by the weak pricing environment. DBRS expects CNRL to sustain a free cash flow shortfall (cash flow after capital expenditures (capex) and dividends) for the full year. However, once the Phase 2B expansion at the Horizon Oil Sands (Horizon) project is completed in Q4 2016, free cash flow should begin to swing to a surplus (based on DBRS’s estimate) at a West Texas Intermediate (WTI) oil price above USD 40 per barrel (bbl) and the Company’s debt-to-cash flow ratio should start to improve.

Of the $3.5 billion to $3.9 billion capex budget for 2016, about $2.0 billion is targeted for both the Phase 2B and Phase 3 expansion at Horizon. Phase 2B, targeted for completion in October 2016 (45,000 bbls/d), and Phase 3 (80,000 bbls/d) targeted for Q4 2017, are expected to increase Horizon’s total output to approximately 250,000 bbls/d. Capital spending associated with the Horizon expansion is anticipated to drop to $1 billion in 2017 after Phase 2B, and $0 in 2018 after Phase 3 is completed. As a result, capital flexibility is expected to be enhanced commencing in Q4 2016, as spending on the Horizon expansion winds down. Once the expansion is completed, the Company estimates $2.4 billion to $2.7 billion of annual capex to maintain production.

The Company’s cash flow is highly sensitive to oil and gas price changes, and there are no commodity price hedges in place for 2016 or 2017 to temper price volatility. With the exception of spending on Horizon, CNRL has made sizable cuts to capital spending and reduced operating and general and administrative costs to adjust for a lower pricing environment. Nevertheless, cash flow from operations has contracted significantly, and the Company incurred a free cash flow deficit in 2015 and Q1 2016. As a result, credit metrics have eroded. For the last 12 months ending March 31, 2016, the Company’s lease-adjusted debt-to-cash flow ratio was 3.74 times (x) (below the BBB threshold) versus 1.72x for FY2014. The lease-adjusted debt-to-capital ratio was 40.4% (within the BBB range), and lease-adjusted EBIT interest coverage was negative. The Company’s liquidity position is adequate ($2.3 billion available on $7.4 billion of credit facilities as of March 31, 2016) and in DBRS’s opinion, the Company has the capacity to sell assets and/or sell the balance of shares held in PrairieSky Royalty Ltd. (approximate value of $530 million). Also, if necessary, CNRL could cut its common share dividend.

A key plank of the Company’s capital allocation program is to strengthen the balance sheet, and based on Company guidance and applying strip pricing (over USD 50/bbl for WTI), DBRS projects CNRL’s key credit metrics could recover to the BBB category by 2018. However, material delays and/or cost overruns at the Horizon project are potential risks that could jeopardize a recovery in credit metrics to the BBB category in addition to adding pressure on the Company’s liquidity profile. As a consequence, DBRS is maintaining the Negative trend with the possibility of a downgrade should the aforementioned risks at Horizon be realized and/or if oil prices remain weak. On the other hand if the Horizon project timetable and costs remain within plan and if the price of WTI oil stabilizes above USD 50/bbl, DBRS will likely change all trends to Stable from Negative.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodologies are Rating Companies in the Oil and Gas Industry and DBRS Criteria: Commercial Paper Liquidity Support for Non-Bank Financial Issuers, which can be found on our website under Methodologies.