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Encana Corp's Growth Engine Slowed in Q3 but Revved Back up Quickly

An oil pump with a blue sky in the background.

On the surface, Encana (NYSE: ECA) seemed to report somewhat lackluster third-quarter results. Earnings slipped 7% versus the prior year, due to a significant drop in natural gas production. Meanwhile, the output from the company's grow-focused core assets hardly grew. That made the quarter look like a step in the wrong direction for a company that reported blowout results just a few months ago .

That said, several factors negatively impacted the quarter, including two unexpected headwinds. The company has since overcome both issues, which kept it on pace to meet, or beat, the ambitious goals it set for what's a transformation year for the Canadian shale driller.

An oil pump with a blue sky in the background.

Image source: Getty Images.

Drilling down into the numbers

As the table below shows, production out of Encana's core plays barely budged versus last quarter:

Metric Q3 2017 Q2 2017 Difference
Core Production 248,000 BOE/D 246,500 BOE/D 0.6%
Liquids Production 127,500 BPD 124,900 BPD 2.1%

Data source: Encana. BOE/D=barrels of oil equivalent per day, BPD=barrels per day.

That's a bit of a disappointment considering that output from its four core shale plays rose nearly 4% in the second quarter while higher-margin liquids production jumped 14%. However, the company noted that the slowing growth rate wasn't due to any operational missteps. Instead, it pointed out that production from its Eagle Ford Shale assets in Texas came in lower than initially anticipated due to Hurricane Harvey. That isn't surprising since peers Marathon Oil (NYSE: MRO) , EOG Resources (NYSE: EOG) , and Devon Energy (NYSE: DVN) all reportedsimilarissues .

In addition to that, Encana faced another headwind that its U.S.-focused peers didn't, which was an issue with third-party natural gas infrastructure in Western Canada. Because of that, the company had to hold back some of its gas production in the country. As a result of that issue, and the recent sale of its Piceance natural gas assets in the U.S., Encana's gas output plunged 29% year over year.

That said, while those two issues held Encana back during the third quarter, it has quickly moved past them. The company noted that production from its core plays was 22% higher last month than in the third quarter while liquids output rose 18% in October. Because of that, Encana remains on pace to increase production 30% from its core plays by year-end, which is at the high-end of its guidance range. That lines up with what Marathon, Devon, and EOG also reported, with all three on pace to deliver more than 20% production growth from their core assets by year end.

A drilling rig with the sun setting in the background.

Image source: Getty Images.

Setting the stage for the next phase of growth

That said, Encana's focus won't be just on increasing production. Instead, the company recently updated its five-year plan to shift the focus from growing output to cash flow. At the heart of that strategy will be a focus on drilling high-return, high-margin wells that the company anticipates will fuel 25% compound annual cash flow growth through 2022. Further, at $50 oil, that plan will produce about $1.5 billion in free cash flow over the next five years, which could be conservative considering crude is in the mid-$50s at the moment.

That strategy sets Encana apart from its U.S. shale drilling rivals since most still plan to plow every penny of cash back into new wells. For example, EOG Resources' strategy is to deliver a 15% compound oil growth rate through 2020 at $50 oil with the potential to accelerate it to 25% compounded annually at $60 oil by reinvesting the higher cash flows from that oil price into more wells. Meanwhile, Devon plans to continue monetizing assets, which would give it the cash to reduce debt as well as accelerate the development of its high-return drilling inventory. Finally, Marathon plans to deliver profitable growth within cash flow, with it currently on pace to deliver 10% to 12% compound annual production growth at $50 oil through 2021.

Already accelerating

While Encana's production growth rate slowed in the third quarter, that's just a minor speed bump for a company that's just starting to ramp up. That said, production growth isn't the metric Encana will focus on, since it will aim to increase cash flow, which will eventually provide it with excess money that it can start sending back to shareholders, either through a larger dividend or via share repurchases. Those increasing shareholder returns position the company to create tremendous value for investors over the next several years, even if oil slips a bit since it can achieve its plan at less than the current oil price.

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Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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