DBRS Confirms Encana at BBB and R-2 (middle), Stable Trends

DBRS has today confirmed the Issuer Rating of Encana Corporation (Encana, or the Company) and its Unsecured Senior Notes and Medium-Term Notes & Debentures at BBB, the rating of its Commercial Paper at R-2 (middle) and the Unsecured Long-Term Notes of Encana Holdings Finance Corp. at BBB, all with Stable trends. Encana’s ratings are supported by its (1) good liquidity profile, (2) position as a low cost producer and (3) economies of scale in North America.

The Company’s financial profile weakened further during 2012 as depressed North American natural gas pricing fundamentals continued. Operating cash flow was not sufficient to fund capex and dividends, resulting in a free cash flow deficit of $634 million. Asset sales and upfront joint venture proceeds of approximately $4 billion were used toward funding the deficit, repaying $500 million in maturing debt and to increase cash balances to approximately $3.2 billion. DBRS expects free cash flow deficits to continue for the near term; however, current cash balances are expected to be sufficient to fund these without requiring incremental debt.

A key challenge facing the Company is its exposure to North American natural gas (94% of 2012 production), pricing of which remains depressed due to excess supply conditions. This has resulted in a significantly weakened financial profile. Although the Company’s position as a low-cost producer provides somewhat more flexibility to withstand lower pricing environments than higher-cost peers over the near term, DBRS believes that a meaningful recovery of cash flow will remain challenging. Excess supply is exacerbated by (1) above-average gas storage levels, (2) a significant inventory of backlogged wells in major plays and (3) growing associated natural gas production from liquids-focused drilling. As a result, the Company’s cash flow is expected to remain weak. Encana has attempted to mitigate its exposure to dry natural gas through its focus on development of its liquids-rich gas and oil plays; however, DBRS does not expect significant near-term cash flow contribution from liquids operations, considering the high level of capex to ramp up liquids and oil production.

The Company’s current strong liquidity position is largely due to proceeds of asset divestitures and joint venture (JV) transactions. In December 2012, the Company entered into a JV with Phoenix Duvernay Gas (a subsidiary of PetroChina) for upfront proceeds of CDN$1.18 billion and a capital carry of CDN$1 billion. The rating assumes that Encana will continue to divest non-strategic assets if necessary to supplement liquidity and maintain credit metrics within the parameters of the rating category. Should the Company be unable to sustain its liquidity, further negative pressure on the rating could result.

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

The applicable methodology is Rating Oil and Gas Companies (April 2011), which can be found on our website under Methodologies.

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.