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Cenovus CEO Alex Pourbaix at a news conference in Calgary on Jan. 30, 2020.The Canadian Press

Cenovus Energy Inc. shares tumbled to a six-month low on Monday as investors who sought gains from the oil sands producer’s large exposure to heavy oil markets feared its planned takeover of Husky Energy Inc. will limit that prospect.

Cenovus is touting the $3.8-billion deal, announced on Sunday, as a way to bring more balance to its oil production and refining mix, and smooth out the commodity-driven volatility in its cash flows. It said the combined company will cut debt and reduce expenses after this year’s collapse in energy demand.

Husky’s assets include heavy oil upgrading in Canada and refineries in the U.S. Midwest, which Cenovus says will be a hedge for Cenovus’s vast oil sands production. Cenovus chief executive officer Alex Pourbaix said this will add resilience to the Calgary-based company’s business plan as it navigates weak industry conditions.

But in the first trading session after the deal was announced, Cenovus shares fell 8.5 per cent to $4.47 each, its lowest since late May. Husky shares, meanwhile, jumped 12 per cent to $3.55. Under the deal, shareholders will receive 0.7845 of a Cenovus share for each Husky share. They will also get share purchase warrants that Cenovus says add 7 cents a share to the offer.

“There are a number of guys who looked at this [Cenovus] as being one of the larger names that was more of an oil-levered play. Now, with the deal being announced with Husky, you’ve got a more balanced play,” said William Lacey, analyst at ATB Capital Markets.

Husky, which is majority owned by companies controlled by Hong Kong billionaire Li Ka-shing, also has offshore production on Canada’s East Coast and in the South China Sea. It is not yet known if those assets are key to Cenovus over the long term. Cenovus will also add Husky’s retail gasoline network, a business the owner previously tried to sell but has since taken off the market.

Those assets, along with Alberta Deep Basin natural gas properties, are the most likely divesture candidates, Mr. Lacey said.

U.S. benchmark West Texas intermediate crude prices have been stuck at about US$40 a barrel for months after skidding to historic lows in April as global efforts to halt the spread of the coronavirus prompted mass restrictions on transport and a swoon in oil demand.

At around US$10 a barrel under WTI, the discount on Western Canadian Select heavy crude has been favourable, however, to the point where the Alberta government has said it will end restrictions on oil production. Some investors see the market strengthening this winter and beyond to the benefit of oil producers.

“You get scale, you get fast return of capital and, most importantly, greater deleveraging and more integration. I want to be long WCS though,” said Eric Nuttall, portfolio manager at Ninepoint Partners. “I’m bullish on oil, I’m bullish on WCS differentials. Diversifying away from that kind of detracts from the story.”

Major investors have been calling for consolidation in the oil patch, saying companies require scale and lower costs if they are going to be of interest, especially after the pandemic prompted a flight of investment capital to other industries. That has already played out in the United States, where there have been four major deals in recent months. Even before the spring, Canadian companies had been under severe pressure because of chronic delays in adding export pipeline capacity and a burgeoning international focus on environmental, social and governance issues.

Under the plan, the combined Cenovus and Husky aims to save $1.2-billion annually, half by reduced spending and half through overhead and staff reductions. The latter will be painful for the Alberta economy, which has endured tens of thousands of oil patch layoffs in the past five years. The magnitude of expected savings impressed analysts.

Future asset sales could further strengthen Cenovus’s balance sheet, said Travis Wood, analyst at National Bank Financial. Mr. Wood has been critical of Husky’s past debt-reduction and cost-saving performance, and said the deal is a win for its shareholders. They will benefit from financial and operational discipline under Mr. Pourbaix and Jon McKenzie, who left Husky to be Cenovus’s chief financial officer in 2018 and will be chief operating officer at the combined company.

Mr. Wood said investors will be in “show me” mode as the merger goes through its paces, but ultimately the consolidation is necessary with the industry offering little growth to investors.

“Standing still isn’t acceptable. There will be a finite number of companies that are relevant on a global investment basis over the next five or 10 years,” he said. "You may be public, you may be operational, you may be solvent, but you’re not going to be on the radar for institutional capital at all, unless you’re making moves at the lows of the cycle.”

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