Desjardins Desjardins Securities analyst Chris MacCulloch remains “constructive” for the Canadian oil and gas sector moving into 2024, seeing the commissioning of the TMX pipeline and further advancement of LNG Canada as “two critically important projects that will break the shackles which have held industry back from realizing its full potential for far too long.”
“After a decade and a half of planning, delay and frustration that frequently shook both the Canadian energy sector and the political system, it is hard to believe that the big day is almost here — an expansion of egress that will unleash Canadian hydrocarbons on the world,” he said. “We refer initially, of course, to the TMX project which is tentatively scheduled to come online in 2Q24, with linefill potentially commencing early in the new year; this will provide a conduit for Canadian heavy oil producers to access U.S. West Coast and Asian refining markets. More importantly, it will expand oil pipeline takeaway capacity from the WCSB by 590 mbbl/d, thereby hopefully casting massive blowouts in WTIWCS differentials to the dustbin of history. As an aside, those completely avoidable differential blowouts have left every Canadian citizen and foreign shareholder of a Canadian energy company considerably poorer, with tens of billions of dollars literally siphoned into the hands of US refiners and commodity marketers, all down to the missteps of Canadian politicians of all stripes, both federal and provincial. But we digress. Not to be undone, Canadian natural gas will also begin accessing overseas markets shortly thereafter with the first 2.0 bcf/d phase of LNG Canada currently running ahead of schedule after recent completion of the Coastal GasLink pipeline, with the first train likely coming online in the next 1218 months. For what it’s worth, you can rinse and repeat most of the above comments with respect to Canadian natural gas.”
In a research report released Wednesday, Mr. MacCulloch touted “incredibly exciting times” for the industry “as it prepares to unleash its full unbridled potential after being arbitrarily restrained for far too long in our view.”
“Meanwhile, the sector also happens to be attractively valued, despite recent multiple expansion, with balance sheet deleveraging now effectively complete, which should drive a significant acceleration of capital returns,” he said. “For all those reasons, we firmly believe that Canadian oil & gas equities are attractively positioned for investor portfolios in 2024. However, we maintain our view that investors need to remain vigilant with respect to security selection and given that most of the easy gains are now likely in the rearview mirror for the Canadian oil & gas sector in the absence of a sharp pickup in commodity prices (which appears unlikely, from our perspective).”
Mr. MacCulloch named a pair of stocks as his “tip picks” for 2024:
* Arc Resources Ltd. with a “buy” rating and $31 target, rising from $30.50. The average on the Street is $27.45.
“ARX is uniquely positioned in the Canadian energy landscape as an organic growth story while retaining flexibility to remain a capital return monster offering prospective investors a discounted valuation. Despite sterling performance in 2023, even brighter days lie ahead,” he said.
* Cenovus Energy Inc. with a “buy” rating and $34.50 target, down from $35.50. The average is $33.12.
“We believe that headwinds can (and will) turn into tailwinds given that the past misfortunes were not structural in nature. In fact, with a slew of upstream growth projects currently in the pipeline, including the Sunrise optimization project and the return of the Terra Nova FPSO (10 mboe/d), we expect production to begin hitting full stride in 2024, with operational momentum moving into the late 2020s,” he said. “Furthermore, reconciliation of past events provides greater understanding of a discounted stock valuation which is now far too lucrative to ignore, in our view. For reference, the stock is currently trading at an estimated 2025 EV/DACF [enterprise value to debt-adjusted cash flow] multiple of 4.7 times at strip prices, a significant discount vs its oil-weighted large-cap peers (6.4 times) while offering a 10.6-per-cent FCF yield (vs peers at 9.3 per cent).”
He also said seven other companies are “worthy of honourable mention.” They are:
* Canadian Natural Resources Ltd. (CNQ-T) with a “buy” rating and $108 target, up from $103. Average: $99.02.
Analyst: “CNQ will by all expectations remain the go-to name for generalist investors seeking exposure to Canadian energy. And why not? Renowned as an industry leader in operational efficiencies and strict capital discipline, the company is now staring down the twin prospect of a more than $100-billion market capitalization and a triple-digit stock price, underpinned by a diverse production base with decades of inventory and a heavy oil–weighted production base poised to capitalize on narrowing WTIWCS differentials when TMX comes online. While acknowledging that valuation remains rich by any measure, firmly positioned atop the Desjardins E&P coverage universe, it also remains one of the best-insulated investment opportunities for shareholders wary of commodity price risk, poised to begin returning 100 per cent of FCF to shareholders in early 2024 through buybacks and a base dividend currently sporting a competitive 4.4-per-cent yield.”
* Enerplus Corp. with a “buy” rating and $23 target, down from $24.50. Average: $25.24.
Analyst: “ERF continues providing one of the best value propositions in the Canadian energy sector, currently trading at an estimated 2025 EV/DACF multiple of 3.3 times (vs peers at 4.3 times) while offering a 12.0-per-cent FCF yield at current strip prices. Armed with a pristine balance sheet and deep drilling inventory, and firmly focused on North Dakota, we believe the company could be a beneficiary of the M&A super cycle currently unfolding south of the border.”
* Tamarack Valley Energy Ltd. with a “buy” rating and $6 target (unchanged). Average: $6.08.
Analyst: “TVE remained highly disciplined in 2023 and not coincidentally has started emerging from its debt-laden slumber on the back of a non-core asset disposition earlier this fall, which accelerated balance sheet repair. That is incrementally positive for investors as it puts the company one step closer toward activating the next tranche of capital returns, which are poised to accelerate to 50 per cent of FCF when net debt reaches $900-million —a 1Q24 prospect at strip prices, as previously noted. Meanwhile, we believe that TVE has been flying under the radar as a producer that will significantly benefit from narrowing WTIWCS differentials when TMX comes online after materially lagging its heavy oilweighted peers in 2023. On that note, the stock remains attractively valued.”
* Advantage Energy Ltd. with a “buy” rating and $13.25 target, down from $13.75. Average: $12.76.
Analyst:”AAV once again graces our list as a preferred name within the small/mid-cap natural gas space, and for good reason. The business model remains substantially unchanged with the company still targeting FCF per share growth through 10-per-cent annualized organic growth, which is further augmented by an aggressive share buyback program that is currently receiving 100 per cent of corporate FCF. While softer natural gas prices have temporarily taken some of the sizzle out of share buybacks, AAV retains among the highest torque within the Desjardins E&P coverage universe to a potential recovery as fundamentals begin improving moving into 2025, when we also expect the first phase of LNG Canada to come online.”
* Tourmaline Oil Corp. with a “buy” rating and $85 target, down from $86. Average: $84.09.
Analyst: “TOU remains the go-to name for most generalist investors looking to dip their toes into natural gas, which is not surprising given the company represents the pinnacle of quality in the Canadian energy landscape. At its core is a top-tier management team which has proven to be a responsible steward of shareholder capital and among the savviest acquirers of assets. Although insider interests are clearly aligned with shareholders, the quantum of special dividends witnessed over the last 12 months will almost certainly moderate heading into 2024 given softening natural gas prices and with a larger allocation of FCF temporarily earmarked for the balance sheet after it recently closed the acquisition of Bonavista Energy Corporation.”
* Freehold Royalties Ltd. with a “buy” rating and $18.75 target, down from $19.50. Average: $19.08.
Analyst: “TOU remains the go-to name for most generalist investors looking to dip their toes into natural gas, which is not surprising given the company represents the pinnacle of quality in the Canadian energy landscape. At its core is a top-tier management team which has proven to be a responsible steward of shareholder capital and among the savviest acquirers of assets. Although insider interests are clearly aligned with shareholders, the quantum of special dividends witnessed over the last 12 months will almost certainly moderate heading into 2024 given softening natural gas prices and with a larger allocation of FCF temporarily earmarked for the balance sheet after it recently closed the acquisition of Bonavista Energy Corporation”
* Topaz Energy Corp. with a “buy” rating and $27.50 target, down from $28.50. Average: $27.96.
Analyst: “TPZ also slowed its pace of M&A activity in 2023, executing $66-million of acquisitions to date this year, in stark contrast to the $436-million tally in 2022 as it replenished the balance sheet for future M&A catalysts. The opportunity set remains firmly focused on strongly capitalized producers in western Canada, with an eye toward future growth, particularly in emerging plays such as the Clearwater, and we believe 2024 will provide an opportunity to accelerate M&A. With interest rates stubbornly elevated at multi-year highs, TPZ continues to provide an alternative source of capital to potential consolidators in the Canadian energy sector”
For other large-cap stocks, Mr. MacCulloch trimmed his targets for Imperial Oil Ltd. ( “hold”) to $82 from $85 and Suncor Energy Inc. ( “hold” to $51 from $54. The averages are $86.49 and $54.79, respectively.