Varcoe: Pipeline bottleneck creates stymied oilpatch investment and cheap crude for U.S.


As oil prices surged briefly above US$72 a barrel last week, some starry-eyed pundits openly mused about a return to a $100 world in the not-too-distant future.

Despite such unbridled optimism — crude closed Friday at $67.88 a barrel — no one expects this sentiment to turn into a stampede of investment, jobs or drilling in Western Canada’s oilpatch in 2018.

“It’s the same as last year, probably flat,” said Bryan Goudie, chief financial officer for Predator Drilling, a Red Deer-based company that operates about 25 rigs in Canada and the United States.

“The growth in our company is all coming out of the U.S.”

As critical negotiations between Ottawa, Alberta and Kinder Morgan count down this week to decide the fate of the company’s beleaguered Trans Mountain pipeline expansion project, those inside the sector are deeply concerned about the future of new pipelines — and its effect on energy investment.

Goudie and others across the Canadian energy industry believe the oilpatch faces unsettled times, not only from the usual volatility of commodity prices and competitive pressures but from a transportation bottleneck: too much oil and not enough pipeline capacity to efficiently ship it to market.

U.S. customers, such as refiners and energy marketers, who spent about US$50 billion last year buying Canadian oil, are the winners in this conundrum.

They were getting a great bargain earlier this year when the price discount on Western Canadian Select (WCS) heavy oil widened to US$30 a barrel, although it settled around $18 on Friday.

“I have a lot of American friends, but there’s a time in which you’re just being too generous with them,” Husky Energy CEO Rob Peabody said last month.

“I’ll buy them dinner, but giving them billions of dollars on a regular basis just doesn’t seem like something we need to be doing for our friends.”

RBC Economics expects the price difference between U.S. benchmark West Texas Intermediate crude and WCS heavy oil will average US$21 a barrel this year, about $6.50-a-barrel more than it considers the normal equilibrium level.

While prices have risen for WCS from a year ago, petroleum producers and service companies aren’t seeing the same surge in cash flow or investment that U.S. competitors are experiencing.

Industry capital spending in Canada is expected to fall by almost 10 per cent this year. It’s increasing by 15 per cent south of the border, according to energy consultancy Wood Mackenzie.

Drilling levels in Canada are sluggish, in part because of slumping natural gas prices, but also due to uncertainty caused by transportation constraints.

“We’ve seen the recovery in oil prices . . . but we haven’t seen an increase in spending with our clients,” said Dale Dusterhoft, CEO of Calgary-based Trican Well Service.

“If they’re not spending money, we’re not making money.”

Scotiabank notes there’s been an 85 per cent increase in oil production in Western Canada since early 2010. Output reached 4.2 million barrels per day by the end of last year, with “no real progress on new pipeline capacity,” it noted.

The bank expects Canadian oil production will continue to outstrip pipeline capacity until at least 2020.

Oilsands producers such as Suncor Energy insist they won’t make major investments in the country unless the market access concerns are resolved.

“We are exporting a massive amount of wealth,” Suncor CEO Steve Williams said recently. “We are sending billions of dollars down south to the U.S. and it makes absolutely no sense.”

Estimates vary as to the actual lost opportunity cost to Canada from a lack of pipelines, but it’s measured in the billions annually.

Earlier this year, Scotiabank projected the price discount would cost the country around $10.8 billion in 2018 as more oil is shipped by rail to market.

The Alberta government estimates it costs about $7 more per barrel to transport oil by rail than through pipelines to U.S. customers.

The national brouhaha over pipelines has also raised questions on both sides of the battle about the future of Canada’s fossil-fuel sector and the desire of governments in the country — with the third-largest proven oil reserves in the world — to develop its natural resources.

With oil pipelines in the country already running full, the prospect of heavily discounted prices for Canadian heavy oil for the coming years is discouraging investment.

“Fundamentally, it complicates further investment in Canada as long as the situation doesn’t appear to have a resolution,” said Kevin Birn of energy consultancy IHS Markit.

“The worst thing for making a decision to invest is uncertainty, and right now Western Canada has a lot of it.”

Not all Canadian oil producers are facing the pipeline pinch, but the issue is casting a shadow over the entire sector.

“It has a big impact on western Canadian business,” said Andy Mah, CEO of Advantage Oil & Gas, primarily a natural gas producer.

“It throws a heightened level of risk on investing in anything in Canada.”

Some producers without sufficient pipeline access shut in some output during the first three months of the year, while U.S. refiners and energy marketers with access to discounted barrels snapped up cheaper Canadian product.

“It’s hard to say it’s a subsidy because that would mean we intentionally planned to give it to them. But it is a net loss to Canada,” added Birn.

“We are artificially pushing the value of Canadian crude below market value — and people are taking advantage.”

This trend comes at a critical time for the sector.

After three years of losses, profits are now expected to return to the Canadian oil extraction sector with $1.4 billion in earnings in 2018, according to the Conference Board of Canada.

Most of the major oilsands investments made before the 2014 price crash are now winding up, with few new projects in the hopper.

Investment managers say the market access issue is hanging over the Canadian oil and gas industry, with the problems punctuated by the ongoing turmoil surrounding Trans Mountain’s expansion.

“You have a project that has received all regulatory approvals and is still being held up. And so it becomes a rule-of-law type of question,” Les Stelmach, a senior vice-president and portfolio manager at Franklin Bissett Investment Management, said in a recent interview.

“If that starts to get shaken, then what is the value of a contract in Canada?”

Business leaders say the issue threatens to bleed into other sectors in the economy if Trans Mountain — approved by regulators and the federal government two years ago — can’t get across the finish line.

“The message we’d be sending to investors around the word is that Canada isn’t a good place to invest, even if you play by the rules,” Perrin Beatty, CEO of the Canadian Chamber of Commerce, said Friday.

“Investors would simply say it’s not worth the risk.”

Chris Varcoe is a Calgary Herald columnist.


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