Cenovus Energy's $17.7-billion acquisition of ConocoPhillips's oil sands holdings is a blockbuster deal that should have garnered a blockbuster response.
It doubles oil sands output in one fell swoop, cements the company as leader in steam-driven production, Canadianizes more of the world's third-largest crude deposit and opens up a new business in one of North America's hottest natural gas exploration plays.
What's more, Cenovus doesn't have to search for any of the gooey crude or try to figure out how well the assets work. Then, there's the whole economies-of-scale thing, just as pipeline export capacity looks finally set to increase. Long-term, investors will probably reap big rewards.
Shorter term, the timing stinks.
That played out in a major way on Thursday, when investors dumped Cenovus shares, some clearly concerned about the initial pile-up of debt in a shaky environment, after selling $3-billion of stock to help fund the acquisition. Cenovus shares skidded 13 per cent to $15.17 in afternoon trading, a far cry from the bought-deal price of $16.
The deal comes as two cries have echoed through markets: "Sell oil!" and "Sell Canada!"
On the first point, crude prices have stepped to a lower plateau in recent weeks, from the $50s (U.S.) into the $40s. This is against a backdrop of worry that OPEC production cuts have only given competitors, such as U.S. shale producers, the fuel to ramp up their output once again. It raises the odds that the oversupply will drag on.
That doesn't tell the whole story, though. Indeed, a murky outlook for global crude prices is not souring Saudi Arabia on plans to take its national oil company, Saudi Aramco, public. The kingdom has chosen global banks to lead what is widely expected to be the largest-ever initial public offering. One of them, JP Morgan Chase & Co., is also co-leader of the Cenovus deal.
Of course, Saudi Arabia has pretty big levers to help sell the 5-per-cent stake in the company, whose value has been pegged at $2-trillion. Among them: it slashed Aramco's tax rate to 50 per cent from 85 per cent. Ottawa can't do anything of the sort for Cenovus.
However, couple the arrested recovery in energy markets with a chill that's descended on the Canadian industry following the election of U.S. President Donald Trump, and conditions look worse. It means an extra hard look at Cenovus, which appears to be paying full price for ConocoPhillips's interests.
In the past few weeks, two IPOs in the energy service industry have been pulled, and a host of others planned for exploration and production companies are expected to be put on ice until more certainty arrives. Since hitting a recent high in mid-December, the S&P/TSX capped energy index has slumped 12 per cent.
Sure, the richest oil sands are quickly being gobbled up by domestic players, including Suncor Energy, Canadian Natural Resources, and now Cenovus, in an evolution that has sent Statoil, Royal Dutch Shell and ConocoPhillips to quicker-return oil opportunities elsewhere (though ConocoPhillips is hanging on to one large project called Surmont). Canadians can get on board with that.
Now, though, there's worry that Canada's capital markets alone can't sustain the massive capital needed to develop what is a low-return, cash-intensive – though super long-term – industry. U.S. support is crucial, and American investors have apparently soured, partly in response to their own government's unpredictability.
In Washington, talk about a border adjustment tax or some other tariff measure that could hit Canadian oil will not die, despite volumes of convincing arguments that such a move would hurt both countries. The tax was a congressional Republican proposal that Mr. Trump was not enamoured with but did not – and will not – rule out. That risk will pressure the market until it is categorically dismissed.
Those factors, combined with debt that is outside the comfort zone of at least some Cenovus shareholders spell pressure. The company has said it aims to unload $3.6-billion of assets to reduce its borrowings, as market uncertainty rules the day.
Cenovus has doubled down, quite literally, on the oil sands. But that means double the exposure to a market that, currently, leaves little room for error.