Hedging and Accounting at Encana

The globeandmail.com is reporting how EnCana's hedging strategy "backfired" as the company recently hedged 40% of its expected 2008 natural gas production at around $8, while prices for natural gas are currently over $10. The impact of the hedging showed up in Encana's first quarter results as profit plunged to $93 million from $497 million a year earlier, with the decrease in the first quarter resulting from unrealized hedging losses. While Encana's 2008 hedges have not expired, mark-to-market accounting generated the balance sheet losses as natural gas prices moved above the original $8 contract price. Also mention is how the Encana executives are "looking on the bright side" as the higher prices have helped the 60% of their production that is not hedged.

As usual, it is interesting how hedging is considered to have backfired when it turns out that you would have been better off being without a hedged position. Of course, if it had turned out that $8 was the top, and Encana was selling the majority of its 2008 production for $6, then the same authors, and many shareholders, would be wondering why the company did not lock into prices when they were so high. Rather than seeing a "backfired" strategy, Encana's approach to managing their business appears sound and stable, and less risky and foolish than one might expect.

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