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Bright Near-Term Outlook for Oil & Gas Canadian E&P Industry

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The Zacks Oil and Gas - Canadian E&P industry consists of companies based in Canada focused on exploration and production (E&P) of oil and natural gas. These firms are engaged in finding hydrocarbon reservoirs, drilling oil and gas wells, and producing and selling these materials to be refined later into products such as gasoline.

Let’s take a look at the industry’s three major themes:

  • While oil production is surging in Canada, the country's exploration and production sector has remained out of favor, primarily due to the scarcity of pipelines. In short, pipeline construction in Canada has failed to keep pace with rising domestic crude volumes – the heavier sour variety churned out of the oil sands – resulting in infrastructural bottlenecks. This has forced producers to give away their products in the United States – Canada’s major market – at a discounted rate. As it is, Canadian heavy crude is inferior to the higher-quality oil extracted from shale formations in the United States and is also more expensive to transport and refine.
  • The deep discounts, which expanded to a staggering $50 per barrel in the early part of fourth quarter, led the Alberta government to issue a mandate on Dec 2, 2018 to remove 325,000 barrels of oil production per day from the market beginning in 2019. While the unprecedented output cuts have brought down the price gap to a large extent, the production curtailment has forced a number of Canadian energy producers to trim their capital expenditure budgets for 2019.
  • The positive final investment decision for Royal Dutch Shell’s (RDS.A - Free Report) LNG Canada project is seen as a significant turning point for the country’s energy industry. The initiative, located in Kitimat, British Columbia, is estimated to cost C$40 billion and marks the nation’s largest infrastructure project ever. While the production of gas is soaring in Canada, lack of pipeline construction and export facilities are forcing producers to sell their products at a discounted rate (just like oil). The LNG Canada project will likely provide a fresh lease of life to Canada’s gas industry. The additional export facility will certainly help mitigate the oversupplied gas market of Canada, which has debilitated the commodity’s price in the country since the past few years.

Zacks Industry Rank Indicates Promising Prospects

The Zacks Oil and Gas - Canadian E&P is an 11-stock group within the broader Zacks Oil - Energy sector. The industry currently carries a Zacks Industry Rank #50, which places it in the top 20% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates impressive near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the top 50% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts have reposed faith in this group’s earnings growth potential. Since Mar 31, 2018, the industry’s earnings estimate for 2018 has gone up by 7.6%.

Before we present a few stocks that you may want to consider, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry Lags Sector & S&P 500

The Zacks Oil and Gas - Canadian E&P has lagged the broader Zacks Oil - Energy Sector as well as the Zacks S&P 500 composite over the past year.

The industry has declined 45.6% over this period compared to the S&P 500’s fall of 7.4% and broader sector’s decrease of 20.8%.

One-Year Price Performance

 

Industry’s Current Valuation 

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA) ratio, which is a commonly used multiple for valuing oil and gas exploration and production stocks, the industry is currently trading at 3.66X, lower than the S&P 500’s 9.62X. It is also below the sector’s trailing-12-month EV/EBITDA of 4.8X.

Over the past five years, the industry has traded as high as 18.71X, as low as 3.33X, with a median of 7.27X.

Trailing 12-Month Enterprise Value-to EBITDA (EV/EBITDA) Ratio

 

 

Bottom Line

Agreed, Canadian crude prices are most likely to trade at a discount to WTI because of quality and pipeline issues. However, as part of a strategic shift, Canadian oil companies are now looking to pump resources into two of the popular shale plays of the country — Duvernay in central Alberta and Montney — instead of investing in risky and costly oil sands projects.

The continued project ramp-ups along with efficient strides adopted by the companies during the slump are now encouraging producers to rev up development. As a result, most Canadian upstream players have reported significant production growth in 2018, exceeding their output targets through a combination of a high level of operational execution, lower completion cycle times and impressive cost reductions.

Meanwhile, the official go-ahead for the much-awaited Kitimat mega LNG export facility is expected to be a game changer for the Canadian energy sector. The project will help ease the nation's gas oversupply while tapping into the growing demand for the commodity in Asia. Due to Canada’s proximity with the Asian markets along with robust natural gas production in British Columbia and Alberta, the nation is a much-preferred destination for the LNG export facilities. The startup of the Kitimat project is likely to unleash a new LNG wave in Canada.

We are presenting one stock with a Zacks Rank #1 (Strong Buy) and another with a Zacks Rank #2 (Buy) that are well positioned to grow. There are also a few stocks with a Zacks Rank #3 (Hold) that investors may currently hold on to.

You can see the complete list of today’s Zacks #1 Rank stocks here.

Gran Tierra Energy Inc. (GTE - Free Report) : This upstream operator focuses on oil and natural gas exploration and production in Colombia. Gran Tierra Energy carries a Zacks Rank #1 and has an expected earnings growth of 337.5% 2018.  Over 90 days, the company has seen the Zacks Consensus Estimate for 2018 increase 52.2%.

Price and Consensus: GTE

 

Obsidian Energy Ltd. (OBE - Free Report) : This oil and gas explorer — focused on assets scattered across Alberta — has a Zacks Rank #2. Obsidian Energy has an expected earnings growth of 82.9% for 2019. Over 60 days, the company has seen the Zacks Consensus Estimate for 2018 and 2019 increase 10.3% and 25%, respectively.

Price and Consensus: OBE

 

Encana Corporation (ECA - Free Report) : This energy finder focuses on four key growth areas namely Montney, Duvernay, Eagle Ford and Permian. Suncor Energy carries a Zacks Rank #3 and has an expected earnings growth of 48.8% for 2018. The company’s expected EPS growth rate for three to five years currently stands at 18.1%, comparing favorably with the industry's growth rate of 12.2%.

Price and Consensus: ECA

 

Bellatrix Exploration Ltd. (BXE - Free Report) : This oil and gas explorer — with operations primarily concentrated in in west central Alberta — also has a Zacks Rank #2. Bellatrix Exploration has an expected earnings growth of 30.7% for 2018. Over 60 days, the company has seen the Zacks Consensus Estimate for 2018 and 2019 increase 3.1% and 20.4%, respectively.

Price and Consensus: BXE

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