Canadian energy stocks are giving back some recent gains. Investors who missed the last rally are wondering if Suncor (TSX:SU) or Canadian Natural Resources (TSX:CNQ) are now undervalued and good to buy for a self-directed Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP) portfolio focused on dividends and total returns.
Suncor share price
Suncor trades near $55 per share at the time of writing. The stock was as high as $57.50 in recent weeks and is up 25% in the past 12 months.
Suncor is starting to regain trust with investors after the company slashed the dividend in the early days of the pandemic. Management eventually reversed the cuts, and Suncor has since pushed the dividend to a new high.
The company is also making progress on a turnaround plan launched by the new chief executive officer, who took control in 2023. Suncor sold its renewable energy assets and has focused on improving safety while reducing expenses to make the overall business more efficient. Production is at record levels, and utilization rates at the refineries are also high.
Suncor’s integrated business structure, which includes production, refining, and retail operations, used to be the reason investors preferred the stock over pure-play producers. The downstream assets provide a good hedge against volatility in the oil market. When oil prices decline, the input costs for the refineries are reduced. This can lead to better margins on the sale of the refined products. The retail division, which includes a network of Petro-Canada gas stations, also provides steady cash flow to help smooth out turbulent times in the commodity markets.
The integrated model is finding favour again with investors, and the trend could continue as the new management team makes progress on driving better results for shareholders. Investors who buy Suncor at the current price can get a dividend yield of 4.1%.
Canadian Natural Resources
CNRL trades for close to $43.50 per share at the time of writing. The stock was recently as high as $47 but has been on a downward trend since April last year when it traded around $56. Over the past 12 months, the stock is up about 2%, so CNQ has underperformed Suncor by a wide margin. This is a reversal of the performance of the two stocks after the pandemic crash.
CNRL is best known for its diversified oil production, but is also a major producer of natural gas. The company tends to be the sole or majority owner of most of its operations. This gives CNRL the flexibility to shift capital around the portfolio efficiently to take advantage of opportunities in the oil and gas markets.
The board has increased the dividend for 25 consecutive years. This is a great track record for an oil and gas producer and is an indication of the efficiency of the business as well as the strength of the balance sheet.
The negative performance of the stock in the past year might be due to a preference among investors that energy companies accelerate debt reduction and return more cash to shareholders instead of making big acquisitions. CNRL has done a good job of reducing net debt and boosting dividends and share buybacks, but it also recently completed a US$6.5 billion cash purchase of assets from Chevron Canada. Funding for the deal included taking on a $4 billion term loan.
CNRL is currently allocating 40% of free cash flow to the balance sheet and 60% to shareholders until net debt drops to $15 billion. The allocation to shareholders will be 75% of free cash flow when net debt is between $12 billion and $15 billion. Below a net-debt level of $12 billion, the company will give shareholders 100% of free cash flow. With that plan in place, the weakness in the stock might be overdone.
Investors who buy CNQ stock at the current level can get a dividend yield of 5.1%.
Is one better pick?
Momentum is in Suncor’s favour right now, while CNRL offers a higher dividend yield and is potentially oversold. At the current prices, I would probably split a new investment between the two stocks.