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Elevator Pitch
I assign a Buy investment rating to Suncor Energy (NYSE:SU) Inc.’s stock. SU’s recent quarterly earnings came in above expectations, and I have a favorable view of Suncor Energy’s portfolio restructuring and capital return plans.
What Were Suncor Energy’s Expected Earnings?
The market had expected Suncor Energy to record a non-GAAP adjusted earnings per share or EPS of C$1.83 (source: Refinitiv) for the third quarter of 2022 prior to the actual financial results announcement. This would have translated into a substantial +158% YoY expansion in SU’s top line in the most recent quarter based on the sell-side’s consensus earnings forecasts.
But Suncor Energy did better than what the analysts anticipated, as discussed in the subsequent section.
Did Suncor Energy Beat Earnings?
Suncor Energy’s actual Q3 2022 bottom line beat Wall Street’s expectations. SU’s normalized EPS rose by +165% YoY from C$0.71 in the third quarter of 2021 to C$1.88 in the recent quarter, which turned out to be +3% above the sell-side analysts’ consensus estimate of C$1.83.
On the company’s website, SU describes itself as “an integrated energy company strategically focused on developing one of the world’s largest petroleum resource basins, Canada’s Athabasca oil sands.” Similar to its peers, SU’s above-expectations third quarter earnings were driven by elevated energy prices.
At its Q3 2022 results briefing, Suncor Energy highlighted that “commodity pricing” will be a key consideration for the company in terms of the proportion of excess capital to be returned to shareholders going forward. This is an indirect acknowledgement of the significant impact of energy prices on SU’s earnings and cash flow.
SU Stock Key Metrics
The key metrics for SU’s stock relate to capital allocation and portfolio restructuring.
With respect to capital allocation, Suncor Energy stressed at the company’s most recent quarterly earnings call that “we’re not in the mode of looking to do M&A”, and it emphasized that the recent Forts Hills Project acquisition was “opportunistic” in nature. This suggests that SU’s capital allocation focus going forward will be returning capital to shareholders and deleveraging.
SU revealed at the company’s Q3 2022 earnings briefing that “we expect to increase our allocation to share buybacks to 75% by the end of Q1 2023.” Suncor Energy also assured investors that it will take “a very significant reduction in commodity prices and cracks” for the company to push out the time line for increased share repurchases.
The company currently allocates half of its excess capital to buybacks and utilizes the other half to pay down debt. Suncor Energy’s plans to allocate a larger percentage (75%) of the company’s excess capital to share repurchases is a strong indication that it has made good headway in its deleveraging efforts.
SU’s net debt was $14.6 billion as of September 30, 2022, as highlighted in its Q3 2022 earnings press release. As outlined in the company’s third quarter results presentation, Suncor Energy guided that it is ready to move to a 75:25 split between buybacks and debt repayment (from 50:50 previously) when its net debt goes below $12 billion. Based on management’s comments at the recent quarterly results briefing, SU is clearly confident in achieving a net debt of $12 billion or below by the first quarter of next year. More significantly, Suncor Energy has set a goal of allocating 100% of its excess capital to share repurchases when the company’s net debt goes to $9 billion or lower.
Separately, Suncor Energy is making good progress in relation to its plans to restructure the company’s portfolio of assets, and monetize its non-core assets.
Seeking Alpha News reported on October 5, 2022 that SU divested its “wind, solar energy portfolio to ATCO in C$730M deal” to turn its attention to areas that “are more complementary to its core business.”
There are more portfolio restructuring activities and asset sales in the pipeline.
Suncor Energy revealed at its Q3 earnings call that “the process to sell our UK E&P assets continues” which should be completed “in the coming months.” Also, Suncor Energy “continues to go through a strategic review of the assets (on the retail side), with a decision update likely by the end of November”, according to an October 4, 2022 Goldman Sachs (GS) report (not publicly available) titled “Americas Energy: Still Bullish Sub-sector” highlighting takeaways from SU’s participation in GS’ Canada Energy Symposium.
What To Expect After Earnings
I expect Suncor Energy’s share price to move up after its Q3 2022 earnings release.
The company achieved an EPS beat for the recent quarter, and there are expectations that SU will increase its share buybacks and continue to sell other non-core assets. As such, Suncor Energy’s valuation gap with its peers should gradually narrow.
According to S&P Capital IQ’s valuation data, the market currently values SU at a consensus forward next twelve months’ free cash flow yield of 20.4%. In comparison, its peers, Imperial Oil Limited (IMO) and Cenovus Energy (CVE) are trading at relatively lower consensus forward next twelve months’ free cash flow yields of 17.1% and 16.6%, respectively.
Is SU Stock A Buy, Sell, or Hold?
SU stock is a Buy. Suncor Energy’s valuations are more attractive than its peers, and there are catalysts in place that should allow for a positive re-rating of SU’s valuations and a narrowing of the valuation gap with peers.
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