The Canadian oil patch is undergoing an existential moment as low oil prices have scared off investors and thrown the future of further oil sands projects into disarray.
The whisper mill says that Suncor’s Fort Hills will be the last of the multi-billion dollar mega projects the industry ever builds, said Arc Financial’s Chief Energy Economist Peter Tertzakian in a May report.
Long payback periods, uncertain returns, volatile oil prices and carbon baggage are no longer business-as-usual scenarios that can be inserted into corporate planning binders, Tertzakian said.
A mega project is defined as a facility with output of about 150,000 b/d.
With a nameplate capacity of 180,000 b/d and a capital expenditure of C$27 billion ($23 billion) over its 30-year life (including initial outlays, maintenance and sustaining capex and abandonment), the Fort Hills bitumen mining project falls into that category.
Along with Fort Hills, construction is also underway for two more mega projects in Canada: second phase of the in-situ Surmont oil sands in Alberta that will increase production capacity to 148,000 b/d; and the 150,000 b/d Hebron heavy oil project in offshore Newfoundland and Labrador.
All three facilities are due to be commissioned in 2017 and were sold to investors with a guaranteed a 15% return on investment.
Fort Hills will unlikely be the last of its kind, but future final investment decisions of its size will certainly be under scrutiny, said Woodmac analyst Michael Hebert, alluding to changing times politically and financially for Alberta’s oil sands patch.
After 44 years of the status quo, a new political party stormed into power in early May grabbing 54 out of 87 seats in the provincial legislature.
Rachel Notley, leader of the New Democratic Party and Alberta’s premier designate, is talking of a 2% increase in corporate taxes to an annual 12% and revising the existing royalty regime for the energy industry.
Without mincing words, she has also spoken about her government’s desire to stop backing TransCanada’s 830,000 b/d Keystone XL and Enbridge’s 525,000 b/d Northern Gateway crude oil pipelines, labelling them as long-standing ‘eyesores.’
With a gestation period of nearly 10 years, there is logic in Notley’s claim, as both export pipelines are still facing political hurdles and are miles away from being built.
On the investment front, Alberta’s oil sands producers have cut back on nearly 1.3 million b/d of new output planned by 2020 in light of the low price environment.
The reduced investments have meant more than 4,500 layoffs since Christmas and an additional 23,000 jobs lost as a result of lower drilling activity.
The situation is also not made any better with oil and gas producers planning to invest some C$46 billion ($41 billion) in 2015, down C$23 billion compared with last year, according to a Canadian Association of Petroleum Producers forecast.
In a further sign of waning industry interest, earnings from the province’s auction of Crown oil and gas drilling rights and lands yielded just C$3.03 million on its May 14 sale – the lowest in a single auction in three years, compared with revenues of C$3.54 billion and C$1.11 billion in 2011 and 2012, respectively.
“So far this year, the near-term reality is that oil and gas revenues are down 45%; royalty is down by half; and cash flows have evaporated to levels not seen since the early 2000s,” Tertzakian said.
Consequently, Canada’s oil and gas industry is bifurcating into two camps: strategic companies that are able to adapt to lower prices; and those that cannot (or do not know how), Tertzakian said.
Not coincidentally companies with deep pockets, like ExxonMobil and Suncor, can wait out low prices, but there are a number of smaller players who don’t have such luxury.
An example of how some producers are coping with the challenges was in hand last week when oil sands start-up and junior player, Southern Pacific Resources, said it was it going into ‘hibernation’ mode for its 12,000 b/d STP-McKay in-situ project in Alberta, rather than mothballing the project.
Hibernation, or turning off the steam and pressure entirely in the underground reservoir, is unheard of in the oil sands sector and is a signal of desperate times for the producer.
“The hibernation plans are thorough and are intended to enable preservation of the assets for an extended period, if required,” Southern Pacific said.
“With the current low-priced crude market, the property continues to generate negative cash flow and thus this measure was deemed necessary to preserve capital.”
With a growing number of major players unveiling mounting first quarter financial losses – and Tertzakian warning the upstream industry as a whole will not make money for the first time since 1998 – the time is right for Alberta’s producers to rethink about its next round of mega projects, if they want them at all.