DBRS Upgrades Ratings of Encana Corporation to BBB, Removes from Under Review–Developing

DBRS Limited (DBRS) upgraded Encana Corporation’s (Encana or the Company) Issuer Rating and Medium-Term Notes & Debentures and Unsecured Senior Notes ratings to BBB from BBB (low). At the same time, DBRS removed the Company’s ratings from Under Review with Developing Implications. All trends are Stable. DBRS notes the closing of the strategic combination of Encana with Newfield Exploration Company (Newfield) on February 13, 2019, and the release of each company’s year-end operating and financial results on February 28, 2019. In conjunction with the release of the year-end results, updated operational and financial guidance was also provided for the newly combined entity. DBRS considers the improvement in the financial and business risk profiles for the combined entity as sufficient to support a one-notch upgrade in the ratings.

DBRS considers the combined entity’s business risk profile stronger than Encana’s on a stand-alone basis. DBRS notes the significant increase in size as a result of the combination. Based on 2018 results, pro forma production has increased by 54% to 556,000 barrels of oil (boe) equivalent per day, creating North America’s second-largest producer of unconventional resources. Also, higher-margin liquids production accounts for a greater proportion of the combined entity’s production mix, and the combined entity’s pro forma reserve life index as at year-end 2018 increases modestly to 9.9 years from 9.2 years compared with Encana as a stand-alone entity. The combined entity’s production mix (on a boe basis) comprises lighter crude oil and natural gas liquids (52% versus 47%). Other key factors contributing to the improved business risk profile include (1) enhanced geographic diversification through the addition of Newfield’s resource plays in three geological basins in the United States (the Anadarko, Uinta and Williston Basins) that complement Encana’s resource plays in its four areas, Permian, Montney, Eagle Ford and Duvernay, and (2) improved capital flexibility with a broader portfolio of resource plays, allowing greater optionality for the allocation of capital. Moreover, Encana anticipates capturing $250 million in annual synergies over the near term as a result of its increased size and the ability to apply its cube development model to efficiently develop Newfield’s resource plays and realize lower overhead costs. The combined entity plans to direct the majority of capital expenditures (capex) to growing liquids-focused production in three defined core areas: the Permian in Texas, Anadarko in Oklahoma and Montney in northeast British Columbia and northwest Alberta.

DBRS also believes the combination is positive for the combined entity’s credit profile. The combination was completed as an all-stock transaction. Encana acquired all the outstanding shares of Newfield and assumed Newfield’s year-end gross debt of $2.4 billion (net debt of $2.1 billion). Based on the last 12 months ended December 31, 2018, the pro forma lease-adjusted debt-to-cash flow ratio improves to 2.0 times (x) and at the low end of the BBB rating range from 2.1x when assuming Encana as a stand-alone entity. The pro forma lease-adjusted EBIT-to-interest ratio improves to 4.5x (upper end of the BB range) from 3.4x, and the lease-adjusted debt-to-capital ratio slips to 39.4% (within the BBB range) from 36.6%. DBRS anticipates that the combined entity’s credit metrics should strengthen further primarily on the basis of increasing cash flow when assuming a West Texas Intermediate oil price of $55.00 per barrel and New York Mercantile Exchange natural gas price of $3.00 per thousand cubic feet through 2021; higher production volumes; and increased contribution from higher-margin liquids production. Also, DBRS anticipates, based on its commodity price assumptions and Company-provided capex and production guidance, the combined entity should be free cash flow positive (cash flow after dividends and planned capex).

DBRS notes that the combined entity has sufficient liquidity; together, the companies had $1.3 billion of cash, and Encana had undrawn credit facilities of $4.0 billion as at December 31, 2018. Encana plans to continue its share buyback program and targets to buy back up to an additional $1.25 billion in shares by the end of 2019. The buyback program is anticipated to be funded with available cash on hand. DBRS has reflected a share buyback of $1.25 billion in its assessment of the combined entity’s credit profile.

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

The principal methodologies are Rating Companies in the Oil and Gas and Oilfield Services Industries (August 2018) and DBRS Criteria: Guarantees and Other Forms of Support (January 2019), which can be found on www.dbrs.com under Methodologies & Criteria

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 under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.

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