Encana delivered strong financial and operating results in the third quarter of 2010, despite continued downward pressure on natural gas prices. Encana generated third quarter cash flow of US $1.1 billion, or $1.54 per share, and operating earnings were $98 million, or 13 cents per share. Encana's commodity price hedges contributed $211 million in realized after-tax gains, or 29 cents per share, to cash flow. Total production in the third quarter was approximately 3.3 billion cubic feet of gas equivalent per day (Bcfe/d). Third quarter natural gas production per share increased 19 percent compared to the third quarter of 2009, on a pro forma basis.
"Our company's solid financial and operating results once again demonstrate that Encana's significant inventory of natural gas resources is capable of supporting substantial production growth. Third quarter natural gas production was up 17 percent year-over-year to 3.2 billion cubic feet per day (Bcf/d). Our strong growth in both our Canadian and USA divisions aligns with our long-term strategy of doubling natural gas production per share over the next five years. Our hedging program helps sustain cash flow during periods of lower prices. We maintain a strong balance sheet and we remain focused on being among the lowest-cost producers, continually pursuing operational efficiencies across all of our operations to help us maximize margins throughout the price cycle," said Randy Eresman, Encana's President & Chief Executive Officer.
"During this period of continued low prices, we remain focused on capital discipline and long-term value creation for every Encana share. We will not pursue growth at any cost. Capacity constraints for completion services, particularly in the USA Division's Haynesville play in Louisiana and East Texas, have hindered the addition of some of the production volumes we had previously forecast in the last half of this year. High demand for hydraulic fracturing equipment and services threatens to accelerate the modest inflation we have seen this year. Across our organization we are committed to minimizing or eliminating cost increases through improved operational efficiencies and technology innovation. As a result, we are developing strategies to bring on new fit-for-purpose completion equipment, patterned after a highlysuccessful program that saw our company contract for the construction and supply of fit-for-purpose drilling rigs – equipment that has improved our drilling and cost efficiency. Given these completion delays, we now are forecasting a deferral of about $200 million in capital investment from this year to 2011 and we have trimmed our production guidance to 3.315 Bcfe/d, an increase of about 12 percent per share from 2009," Eresman said.
"North America's ongoing oversupply of natural gas production has driven prices for the near term to levels that we believe are unsustainably low. As such, we are slowing the near-term growth rate of our resource plays. For the longer term, we continue to build the underlying productive capacity of our enormous resource portfolio for future years' growth. Our low-cost assets are capable of achieving our stated objective – doubling production per share over five years from 2009 levels. However, if these low prices persist, we plan to adjust our growth rate to align with our capacity to generate cash flow," Eresman said.
On November 30, 2009, Encana completed a major corporate reorganization – a split transaction that resulted in the company's
Per share amounts for cash flow and earnings are on a diluted basis. Encana reports in U.S. dollars unless otherwise noted and follows U.S. protocols, which report production, sales and reserves on an after-royalties basis. The company's financial statements are prepared in accordance with Canadian generally accepted accounting principles (GAAP).
Third Quarter 2010 Highlights
Strong natural gas production growth from key resource plays
Total production in the third quarter of 2010 was 3.3 Bcfe/d, up about 17 percent per share from 2.9 Bcfe/d in the third quarter of 2009, on a pro forma basis. Natural gas production was up 19 percent per share to 3.2 Bcf/d compared to 2.7 Bcf/d in the third quarter of 2009, on a pro forma basis. USA Division's third quarter production was led by strong growth in the Haynesville shale, where production grew to about 335 MMcfe/d, from 83 MMcfe/d one year earlier.
Piceance production was up by almost 30 percent year-over-year in the third quarter. The Canadian Division's production was up about 14 percent over the same period in 2009 to 1.5 Bcfe/d, largely as a result of successful drilling programs at Bighorn and Cutbank Ridge, which grew year-over-year production by about 52 percent and 37 percent respectively. In the last half of 2009, Encana curtailed production volumes in some resource plays due to very low prices. During the first quarter of 2010, most of the curtailed production volumes were brought back on stream. This has resulted in an atypical production profile for some of Encana's resource plays over the past year.
Canadian Division capital investment in the third quarter was $529 million, most of which was focused on continuing the steady growth in production across the division. Capital investment in the USA Division was $681 million, mainly focused on the Haynesville shale, with about $240 million of that directed at Encana's land retention strategy.
Encana sharpening focus on liquids-rich plays
With the continued strength of oil and natural gas liquids (NGLs) prices, Encana is sharpening its focus on plays that offer additional value enhancement by increasing oil and NGL production. In the Canadian Division, Encana is also adding liquids extraction equipment, such as refrigeration plants, at some field and midstream facilities to strip NGLs from the natural gas stream and capture additional value.
Gas factory development approach advanced in Haynesville shale play
Building on the company's experience in the Piceance, Montney and Horn River, Encana is advancing its industry-leading gas factory development approach in the Haynesville shale in northern Louisiana and East Texas, with eight rigs drilling on three gas factory locations. This low-cost manufacturing approach helps to lower environmental impact, advance natural gas development and optimize efficiencies by enabling the drilling of eight and potentially more horizontal wells, each containing multiple hydraulic fractures, from a single pad location.
Encana's land retention strategy has helped the company delineate its enormous resource potential across its 430,000 net acres in the Haynesville shale. With lease retention obligations near completion, Encana expects to focus most of its future activities on developing gas factories.
Third quarter net earnings impacted by hedging
Third quarter net earnings were $569 million, about a $1 billion increase from the net loss in the second quarter of 2010. This illustrates how net earnings can be impacted by unrealized gains or losses as a result of mark-to-market accounting for commodity price hedging and foreign exchange fluctuations. Third quarter net earnings include unrealized after-tax gains on commodity hedging of $331 million, whereas in the second quarter of 2010, when gas prices were stronger, the quarter was impacted by a $340 million unrealized after-tax loss. Likewise, third quarter net earnings include nonoperating foreign exchange gains of $140 million after tax compared with losses of $246 million after tax in the previous quarter.
Encana focuses on operating earnings as a better measure of quarter-over-quarter earnings performance because it excludes the variability associated with unrealized hedging gains/losses and non-operating foreign exchange gains/losses. Third quarter operating earnings were $98 million in 2010 compared to $378 million in the same period last year, on a pro forma basis, largely due to a decrease in realized hedging gains of about $484 million after tax.
About 45 percent of natural gas production hedged for remainder of 2010
Encana continues to manage natural gas price risks through its attractive commodity price hedges. Encana has hedged approximately 1.5 Bcf/d, about 45 percent, of expected 2010 natural gas production, at an average NYMEX price of $6.19 per Mcf as of September 30, 2010. In addition, Encana has hedged approximately 1.2 Bcf/d of expected 2011 natural gas production at an average price of about $6.33 per Mcf and approximately 1.0 Bcf/d of expected 2012 natural gas production at an average price of $6.46 per Mcf .
This price hedging strategy helps increase certainty in cash flow which is available to fund Encana's anticipated capital requirements and projected dividends. Encana continually assesses its hedging needs and the opportunities available prior to establishing its capital program for the upcoming year. Risk management positions at September 30, 2010 are presented in Note 14 to the unaudited Interim Consolidated Financial Statements.
Quarterly dividend of 20 cents per share declared
Encana's Board of Directors has declared a quarterly dividend of 20 cents per share payable on December 31, 2010 to common shareholders of record as of December 15, 2010. Based on the October 19, 2010 closing share price on the New York Stock Exchange of $29.25, this represents an annualized yield of about 2.7 percent.
Encana has reduced its 2010 guidance for production by about 50 MMcfe/d to 3.315 Bcfe/d and capital investment by about $200 million to $4.8 billion. Encana has also reduced the top end of its range for cash flow and upstream operating cash flow by $200 million to $4.6 billion and $5.2 billion, respectively. The range of cash flow per share for 2010 is now forecasted at $5.95 to $6.20, compared to $5.95 to $6.50 previously. Encana has narrowed its range for net divestitures to between $300 million and $600 million from zero to $1 billion, in part, as a result of unexpected opportunities to acquiresome properties that complement existing assets. Administrative expenses have also been reduced from 35 cents to 30 cents per Mcfe.
Encana has a strong balance sheet, with 100 percent of its outstanding debt composed of long-term, fixed-rate debt with an average remaining term of approximately 13 years. At September 30, 2010, Encana had $4.9 billion in unused committed bank credit facilities. With Encana's bank facilities undrawn and $1.4 billion of cash and cash equivalents on the balance sheet at the end of the quarter, the company's liquidity position is extremely strong. Encana is focused on maintaining investment grade credit ratings, capital discipline and financial flexibility. Encana targets a debt to capitalization ratio of less than 40 percent and a debt to adjusted EBITDA ratio of less than 2.0 times. At September 30, 2010, the company's debt to capitalization ratio was 30 percent and debt to adjusted EBITDA was 1.3 times, on a trailing 12-month basis, using 2009 pro forma results.
In the third quarter of 2010, Encana invested $1.2 billion in capital, excluding acquisitions and divestitures, with a focus on continued development of the company's key resource plays. Encana invested about $189 million in total acquisitions in the third quarter and divested about $220 million of non-core properties.
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