Pengrowth Energy Corporation (NYSE: PGH) entered 2017 in a tight spot. With CA$1.69 billion ($1.36 billion) of debt outstanding, the Canadian oil and gas producer needed to act fast to stay afloat since it had several upcoming debt maturities to address and it was dangerously close to breaching its financial covenants. As a result, the company had no choice but to unload a boatload of assets. While that plan worked, the company’s stock went on a bumpyride and ended up losing 44% of its value last year.
In late February, Pengrowth Energy warned that if its lenders didn’t provide it with more breathing room by amending some of the covenants on its debt, those borrowings could become due immediately, which could force the company to declare bankruptcy. The oil producer would go on to help its cause by unloading assets to give it the cash to pay down debt. By August it had sold CA$827 million ($666.3 million) in oil and gas properties, which was enough to buy it the needed relief.
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Pengrowth Energy sold a couple more assets before the end of the year, which pushed its asset sale total up to nearly CA$1 billion ($810 million). That shrank the company down to just two core assets: the Lindbergh thermal oil facility and a position in the Montney shale gas region, which are both in western Canada.
With its transformation complete, Pengrowth now believes that it can grow from this stronger core position, with it hoping to sanction phase two of its Lindbergh project in the near-term. This expansion would increase its oil production capacity from that facility up to 40,000 barrels per day, which is a significant increase from the 17,700-barrel-a-day capacity it should have this year.
However, this plan has two glaring issues, which weighed on the stock last year. First, Pengrowth noted that it would need to borrow money to finance the project, which is a concern since its balance sheet is just getting back on solid ground. Second, at $55 oil, the project would only earn a 20% return. Contrast that with what fellow Canadia oil and gas producer Encana (NYSE: ECA) can do in current market conditions. For starters, its premium drilling locations in the U.S. and Canada can earn it a 35% after-tax rate of return at $50 oil. Because of those higher returns, Encana can self-fund its five-year expansion plan at $50 oil, generating 25% compound annual cash flow growth in the process, including producing an anticipated $1.5 billion in excess cash over that timeframe.
Pengrowth Energy worked hard to stay afloat last year, and it’s now in a position to start growing again. Yet even with this progress, the company remains well behind other oil producers like Encana, which can grow at a faster rate within cash flow thanks to their stronger asset base. That’s why Pengrowth’s stock remains depressed and could continue underperforming its peers in the coming years unless oil rockets higher.
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