Thursday July 24, 2014

Bursting the Bitumen Bubble

Why Alberta has to beat the oil price differential
James Waterman Photo

Alberta oil producers are struggling from an oil price differential between Western Canada Select and West Texas Intermediate that could be solved by new pipelines connecting Alberta with world markets.

Keystone XL and Northern Gateway could offer a solution to the "bitumen bubble" problem facing Alberta, but the fates of those projects are beyond the control of government.

As Premier Alison Redford has said during television addresses in recent weeks, her government is looking at a $6 billion shortfall in provincial revenues because of the differential between Alberta oil prices and the West Texas Intermediate (WTI) or Brent Crude prices.

"It's been a reference that's been used to talk about the differential that a lot of Alberta producers are getting for bitumen up in northern Alberta," said Chris Bordeau of the Alberta Treasury Board and Finance.

"It's the Western Canada Select (WCS) price that a lot of producers get per barrel of oil compared to what the North American price is, like WTI price, and then certainly compared to the global Brent price," Bordeau explained.

"We've seen a certain drop in the Western Canada Select price," he continued. "And the spread between WCS and WTI has certainly grown significantly over those last couple of months. And it's really become sort of disassociated from the WTI price."

Historically, said Bordeau, WCS has followed a similar trajectory to WTI.

"In the last couple months, we've seen a disconnect where WCS price has come down, whereas the WTI price has maintained its upper level."

The obvious way that price differential is felt by the provincial government is through royalty revenues.

"The lower the price that our producers get, the less royalty they pay to the province," said Bordeau. "We're definitely seeing an impact on our bottom line for royalties. It also has an offshoot impact, too, on things like corporate taxes that are paid to the province. … When the profit margins decrease for companies it affects how much they pay in taxes. So, it's got a bit of a side impact to some of our other revenue sources.

"Some would even say that a lower WCS price [is] impacting how much we've been able to get when we do these Crown lease sales," he added. "But the direct correlation is definitely the royalty that the companies pay to the province is lower when the price of WCS is lower."

The land sales do present some interesting numbers.

For example, the first land sale of 2013 attracted $85.05 million compared to $63.43 million for the first day of 2012, but the first 2013 sale averaged $239.94 per hectare for a total of 354,476 hectares and the first 2012 sale averaged an impressive $403.88 per hectare for just 157,063 hectares.

The first 2013 sale also resolved around the liquids-rich Montney shale gas play, not oil resources.

"We brought in $3.3 billion in sales of Crown leases," Bordeau said of 2011-2012 fiscal year.

At the halfway point of the 2012-2013 fiscal year, land sales had only brought in just under $600 million.

"We were projecting to bring in basically $2.0 billion," said Bordeau. "We're already projecting to be $1.3 billion under what we brought in [last fiscal year] for Crown leases. But, right now, for six months we're below that even."

Consequently, the Alberta government is looking at being shy $6 billion in revenue for the 2013-2014 fiscal year.

"We've been working on a plan for a while to improve market access even before this current fiscal situation came up," said Bordeau. "The premier's talked a lot about a Canadian energy strategy and the importance of that and how that will help us work with other provinces and increase the number of customers we have that can buy our oil."

However, if growing the customer base requires the successful completion of pipeline projects such as TransCanada's Keystone XL and Enbridge's Northern Gateway, which would move Alberta oil to Texas and the British Columbia coast, respectively, it is somewhat out of Alberta's hands.

"Out of all the major oil producing jurisdictions in the world, Alberta's the only jurisdiction that's landlocked," said Bordeau. "We don't have direct access to a coast where we can then get a higher price for our oil. That's why we're doing what we can. That's why the premier is advocating the Canadian energy strategy. We've put a focus on Asia and having an Asia office. We've got our Washington office as well [and] we're working through them and working with the federal government on those issues.

"But, ultimately, if you're looking at Keystone, for example, that's a decision that the [United States] government needs to make. And they'll make the decision based on their best interest.

"In that sense, it is out of our control."

The Alberta Enterprise Group (AEG), an organization of business leaders devoted to the prosperity of Alberta, clearly believes that too much of that control is being given to individuals or organizations that want to block major projects like Keystone XL and Northern Gateway.

AEG feels that they do so regardless – or ignorant – of the economic benefits.

"Economic illiteracy has long been a problem," said AEG's vice president David MacLean, adding that Canadians are easy to convince of the environmental ramifications, but it is far more difficult to teach them the economic consequences of oil price differentials.

"We're behind the eight ball to start with because what we're trying to communicate is endlessly more complicated," he added.

AEG went public with their concerns in late January after a luncheon with Enbridge CEO Al Monaco.

"It is becoming increasingly difficult to develop the Canadian economy," said AEG president Tim Shipton following Monaco's speech.

"Whether its pipelines, power lines, mines or hydroelectric projects, the debate focuses on why we shouldn't build instead of why we should. Canada is paralyzed by special interests and complacency."

"It's never been like that, historically," said MacLean, adding that Canada was built on calculated risks such as the decision to construct a railroad across the nation.

"Every day we take risks," MacLean continued.

"If we all decided to stay home, we'd all make no money and we'd all be poor. And I'm afraid that Canadians en masse are deciding to just stay at home."

"What is at stake is the balance sheet of the entire country," said Shipton. "It's not just about jobs and profits, but also vital government revenues needed to finance growing government pension liabilities and expanding services.

"The lower price Canadian energy exporters receive is costing the Canadian and Albertan governments billions each year – paid in turn by taxpayers across Canada."

MacLean admitted that AEG fully supports Northern Gateway, but also noted that the embattled pipeline project isn't the only issue at hand when it almost impossible to build new power transition lines in Alberta and when it took ten years of regulatory wrangling to approve a uranium mine in Saskatchewan when the same project would have been approved in just a year and a half in Europe.

Still, Northern Gateway was the example MacLean used when discussing why Canada has to stop being so "cautious" and favouring a "not in my backyard" attitude when considering projects that could prove vital to the national economy.

"It's $2.3 billion in government revenue to all levels of government," MacLean said of Northern Gateway.

"That's a huge number," he continued. "That's enough to employ 1,000 doctors, nurses and teachers for 25 years."

However, MacLean suggested that that message from B.C. government has been that $2.3 billion and 300 jobs in Kitimat isn't sufficient to support the project.

"If that's not enough, how much is?" he continued. "How much is it going to cost as a nation, how much will it take in terms of revenue, for government to make a project like this worthwhile?

"Meanwhile, there's tankers going in and out of the port of Vancouver every week. There's 100,000 barrels a day that goes down that Trans Mountain line into the port of Vancouver – some of it heavy – every damn day.

"We can't have tankers, but you certainly have tankers coming into the port of Vancouver with cheap products to service Walmart. It comes the other way. We can't ship stuff back to Asia. I don't think people really think deeply on it."

MacLean said that the consequences of rejecting pipelines that would move Alberta oil to foreign markets, thereby bursting the bitumen bubble, would be either higher taxes or reduced government services for Canadians.

Benefits of approving those pipelines would include becoming a net exporter of energy.

"And being a player in the global marketplace," he added.

"We've got to keep talking. We've got to raise the discussion," he said.

"We take responsibility as an organization for doing whatever we can, whatever small part we can play, in injecting some economic literacy into the debate. And making sure that people know that we've got to put a price tag on taking an energy development approach in this country.

"I don't think we've done a good enough job of that in the past."

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