DBRS Comments on ConocoPhillips’ Sale of Foster Creek Christina Lake Partnership Interest and Western Canada Deep Basin Gas Assets to Cenovus Energy Inc. for $13.3 Billion

DBRS Limited (DBRS) today notes that on March 29, 2017, ConocoPhillips (Conoco or the Company; rated BBB (high) with Stable trends) announced that it had entered into a definitive agreement with Cenovus Energy Inc. (Cenovus; rated BBB (high) – UR Neg.) to sell its 50% interest in the Foster Creek Christina Lake (FCCL) oil sands partnership (Cenovus holds the other 50% and is operator of the partnership) as well as the majority of its Western Canada Deep Basin gas assets for total proceeds of $13.3 billion. The total consideration includes $10.6 billion of cash payable at closing and 208 million common shares of Cenovus. The shares have a lock-up period of six months that begins at closing. Conoco will also receive uncapped contingent payments from Cenovus over a five-year term. The payment is triggered at a Western Canada Select price of CAD 52/barrel. The associated production with the disposition is approximately 280,000 barrels of oil equivalent (boe) per day net after royalty, with liquids constituting 67% of the production. The Company intends to use the proceeds to reduce debt by approximately $7.2 billion and double its share repurchase program to $6.0 billion over the next three years. The sale is subject to regulatory approval and is expected to close in Q2 2017.

IMPACT OF THE ASSET SALE ON CONOCO’S CREDIT RATING
DBRS has assessed the impact of the disposition on the Company’s Business Risk Profile as moderately negative, with a moderately positive impact on the Financial Risk Profile, and has concluded that the overall impact on the Company’s credit ratings is neutral.

BUSINESS RISK ASSESSMENT (BRA) – Moderately Negative
DBRS views the asset sale as moderately negative from a business risk perspective, as it reduces the Company’s size, geographic diversification and proved reserves. The assets being disposed contributed approximately 17% to the Company’s net production in 2016 and 20% to the Company’s proved reserves at December 31, 2016. However, the impact on the BRA is partially mitigated by the fact that the proceeds from the sale provide the Company with an opportunity to rebalance its portfolio toward higher return and short-cycle investments. Approximately 90% of the production sold consists of natural gas and bitumen, which typically generate lower netbacks relative to the Company’s other assets because of low natural gas prices in North America and the heavy-light oil price differential. Consequently, post-closing, DBRS expects the Company to generate higher operating netbacks on a per-boe basis.

FINANCIAL RISK ASSESSMENT – Moderately Positive
DBRS views the disposition as moderately positive from a financial risk perspective, as Conoco intends to use part of the proceeds of the sale to reduce its debt to $20.0 billion in 2017. The impact of the disposition on the Company’s cash flow from operations (CFO) in 2017 is not expected to be material, as the assets being disposed have been generating limited CFO at current oil and gas prices. Also, the impact is expected to be offset by a reduction in interest expenses. Consequently, DBRS expects Conoco’s key credit metrics, which were well below the BBB rating category for the year ended December 31, 2016 (lease adjusted debt-to-cash flow of 5.71 times, lease adjusted debt-to-capital of 45.1%) to improve in 2017 and 2018. Conoco’s liquidity profile continues to be adequate.

DBRS had previously confirmed Conoco at BBB (high), Stable Trend on December 9, 2016 (see DBRS press release, “DBRS Confirms ConocoPhillips at BBB (high), Stable Trend”). The rating confirmation was based on DBRS’s expectation that Conoco’s key credit metrics would improve over the next two years; the asset disposition is likely to fulfill this expectation. Consequently, the overall impact on the Company’s credit ratings is neutral.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is Rating Companies in the Oil and Gas Industry (September 2016), which can be found on dbrs.com under Methodologies.

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