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Morningstar | Canadian Natural Reports Strong Quarter, but Market Access Needed

No-moat Canadian Natural Resources reported a strong first quarter with adjusted operating cash flow of CAD 2 billion, up significantly from fourth-quarter levels of CAD 1.1 billion and just above our expectation of CAD 1.9 billion. The increased cash flow was a result of higher price realizations, which benefited from the narrowing of the heavy oil discount. However, we expect the higher prices to be short-lived, and we expect heavy oil pricing to decline as IMO 2020 regulations are implemented next year and the industry continues to face pipeline shortages. Accordingly, we are maintaining our long-term outlook for the company.

Canadian Natural reported first-quarter production of 1.035 million barrels of oil equivalent per day, which was more or less in line with our expectations. Production was down 4% from the fourth quarter due to Alberta’s production cuts. Management continues to expect full-year production of 1.030–1.12 mmboe/d, which is line with our expectations.

We are maintaining our $34 (CAD 45) fair value estimate and no-moat rating. The stock is currently trading near $28 (CAD 38), and we see about 20% upside. We think that the market is overlooking the company’s ability to generate cash flow amid low Canadian commodity prices, but we caution investors that we don’t expect the stock price to fully appreciate until there is more clarity surrounding pipeline expansions and expanded market access. Additionally, the stock is yielding 4%, which represents the head of the class among oil sands peers.

Canadian Natural continues to return capital to its shareholders; it repurchased 6.65 million shares for CAD 241 million during the first quarter. Subsequent to the quarter-end, Canadian Natural repurchased another 4.05 million shares for CAD 159 million. The company’s board had announced a policy to continue to buy back shares and reduce debt. On an annual basis, Canadian Natural will allocate 50% of its residual free cash flow, which is free cash flow after budgeted capital expenditures and dividends, to share repurchases and the remaining 50% to reducing debt. The company intends to reduce its leverage to 1.5 times trailing EBITDA and absolute debt to CAD 15 billion.

For a detailed look into Canadian crude market and pipeline trends, please refer to our January Energy Observer, "Pipeline Expansions Are Canada’s Lifelines.”