Enerplus corp. (ERF) is a Canadian energy producer. The company has control over vast reserves of crude oil and natural gas both in US and Canada. The company's portfolio consisted of 45% oil, 50% natural gas and 5% natural gas liquids in terms of production mix. Enerplus assets are split up, geographically, in the ratio of 60:40 in favor of Canadian territory. The idea is basically to diversify in terms of product line and geographically in order to avoid major production shocks.
Enerplus' profitability is heavily dependent on energy prices in the global market; it has cyclical exposure in line with the business cycle. 2013 has seen a defining trend in the US energy consumption pattern, and the introduction of trucks on natural gas has paved the way for higher natural gas consumption in the future replacing oil. Oil will remain a key source of fuel driving the transportation sector for the next decade at least, considering the higher switching cost.
Total sales revenue increased by 8.2% year-over-year but the company reported a loss primarily due to much higher expenses, a 32% increase more than nullifying the impact of increase in sales. The company uses hedging instruments to hedge against the commodity price volatility, and reported a realized cash gain of $18.4 million during the past year. Total Capital Expenditure is cut to $685 million for 2013 from $850million in 2012, of which 85% will be invested in oil and liquid rich natural gas projects. EPS has declined to -0.8 as opposed to 0.61 for 2012 on account of higher financial cost and lower sales.
One of the key determinants is the price of oil and natural gas, although the company has made efforts to diversify itself into liquid natural gas for hedging purposes. With the global recovery in progress but with a much slower growth rate, I do not expect oil prices to increase in the short-medium term. In fact the price might get a hit in case of negative economic numbers especially for the US economy. The Canadian economy is also very much correlated for growth with the US economy. Slowing growth in emerging economies has been a major hurdle considering the fact that emerging economies had driven energy prices over the last decade
The uptick for Enerplus is natural gas prices. The use of natural gas as a fuel for the transportation sector, especially for the 18-wheeler truck category, will have a major shift in demand from oil to natural gas in the long-run. However, higher switching cost would limit the pace of replacement. Natural gas is also used for commercial purposes and with the seeming growth in demand natural gas prices are expected to increase, giving a much needed boost to Enerplus' bottom-line. It will be the net impact of both the products that would establish the bottom line. I think the drag from oil will outweigh the positive impact from natural gas.
Cash flow And Dividends
Enerplus is a dividend oriented stock providing monthly dividend to shareholders. It currently commands a dividend yield of 8.07% although the dividend growth rate has been -24% over the last 5 years. Enerplus' dividend payout has decreased 50% from $0.18/month to $0.09, primarily due to slower commodity market and higher transportation costs. The company explicitly spelled out in its FY'12 annual report that it would continue to assess dividend levels with respect to funds flow, debt levels, capital spending plans and capital market conditions. It iterates the lack of confidence the company management has in sustaining the dividends and the reliance of the company on external factors. Current payout ratio is 159% and will be maintained in the short-term given the decrease in capital expenditures, which will free up cash for dividend distribution. However, the fund flow is highly dependent on factors outside the company's circle of influence, and macroeconomic factors can cause the company to further lower the dividends.
From valuation perspective the company is trading at a forward P/E of 20.7, which is not extremely high. In addition its price/cash flow is 533, it has net cash of $500 million i.e. cash/share of 0.03 with its monthly dividend of 0.09 the company will have issues maintaining the dividend payout in the long-term. Especially with the cut in CAPEX the long-term growth is limited. All this has been reflected in a decrease in dividend payout from $388million to $277million in 2012, with concerns looming over its future cash flow stream. Adding to the dismal performance is its negative ROE due to dividend cuts adversely impacting the stock price. In my opinion, investors should hold for the short-term, and in case of adverse macroeconomic indicators, sell.