August 1, 2024
Cenovus Energy Inc. Where the Rubber Hits the Road
Our view: Our constructive stance towards Cenovus reflects its capable leadership team, underleveraged balance sheet, and rising shareholder returns on the back of achieving its $4 billion net debt target in July— unlocking 100% payout of excess funds flow. In our eyes, the next step in Cenovus’ journey has much to do with building core strength in the downstream. We are maintaining our Outperform rating on Cenovus and our one-year target price of $33 per share.
Key points:
Market reaction to Cenovus’ mixed second-quarter results this morning was harsh in our eyes and elicited several incoming e-mails searching for root causes. The company achieved its $4 billion net debt target in July— a milestone which opens the door to 100% payout of excess free cash flow and substantial buybacks—and released a favorable 2024 guidance update.
2Q Results. Cenovus posted solid second-quarter performance amid 1% higher production of 800,800 boe/d, lower royalty expenses and favorable cash taxes, but its bottom line fell shy of expectations. And this is where market credits—earned by exceeding Street expectations more frequently —are where the rubber hits the road. In our eyes, Cenovus has not banked many credits in some time.
Downstream in Focus. In the second-quarter a turnaround at Cenovus' Lloydminster Upgrader ran about a week over due to weather related delays. Recent unplanned (very temporary) outages at Cenovus’ Toledo and Lima refineries have not helped of late. As such, Cenovus’ resolute focus on raising its complete game (beyond higher sustained utilization rates) in its downstream operations makes tremendous sense to us and is a necessary ingredient in our minds for the stock to outperform on a sustained basis.
2024 Guidance. Alongside its second-quarter results, Cenovus provided a favorable 2024 guidance update, which includes a 1% increase in mid-point upstream production amid unchanged capital investment of $4.5-$5.0 billion. The company is also pointing towards total downstream throughput of 640,000-670,000 bbl/d (an increase of 1% at the mid-point).
Free Cash Flow. We peg Cenovus’ free cash flow at approximately $6.0 billion in 2024 under our base outlook and $5.2 billion under current futures prices.
Relative Valuation. At current levels and under our base outlook, Cenovus is trading at a 2024E debt-adjusted cash flow multiple of 4.4x (vs. our global major peer group avg. of 6.1x), and a free cash flow yield of 13% (vs. our peer group at 8%). In our minds, Cenovus should trade at a modest discount valuation vis-a-vis our global peer group, reflective of its capable leadership team, strong balance sheet, 100% payout of excess funds flow to shareholders and mixed downstream operating performance.