Oil sands

Alberta oil sands. Shell photo.

Climate policies, including a carbon tax, are price Alberta oil producers pay for pipelines

Reuters is reporting that confidence is low in the Canadian oil sands industry, supposedly because of market access issues (read, pipelines) and the Alberta Climate Leadership Plan. But why isn’t anyone talking about global oil prices?

This low confidence story was kicked off by Koch Oil Sands Operating’s decision to ask the Alberta Energy Regulator to rescind regulatory approval for the10,000 bbl/d Muskwa SAGD, approved in June 2014. Bryon Lutes, VP of business development, said that “KOSO does not believe the current nor medium term economic environment in Alberta will provide opportunity to generate an adequate return on the required capital” and Muskwa “is further burdened with regulatory uncertainty around the Climate Leadership Program and its potential impacts on the project, from carbon tax to the emissions cap, both recently legislated by the Alberta Government.”

Lutes then clammed up and didn’t answer media inquiries to explain his comments, thus earning a Christmas brickbat; if one makes a controversial public statement, one should be available to explain it.

Given Koch’s silence on the specifics, let me offer six general observations about the company’s decision and industry confidence in general.

Koch

Source: Andrew Leach.

One, the actual cost of GHG compliance appears to be quite low. Economist Andrew Leach, who led the NDP government’s Climate Change Advisory Panel, calculated the cost for the Koch project at pennies per barrel with current prices.

“Impact of NDP tax & GHG policies reduce free cash flow by $0.19/bbl w today’s prices, $0.71/bbl w EIA prices,” Leach tweeted.

Two, in the very same week it cancelled on SAGD project, KOSO approved a 12,000 b/d SAGD joint venture with Pengrowth Energy Corp., suggesting that project economics might have more to do with the Muskwa decision than provincial climate policies.

Three, the majors support the carbon tax (some have included carbon pricing in their estimates for years) and independents/smaller producers (like Koch) don’t, usually because the crude oil produced by bigger players is less carbon intensive, and therefore punished less. Some oil sands companies, like Cenovus, which is a leader in low-GHG SAGD, may even get rebates.

This political split in the industry partially explains why the Canadian Assoc. of Petroleum Producers backs the Notley climate plan, while the Explorers and Producers Association of Canada rails against additional regulation.

oil sands“We have governments that are going to impose additional regulatory compliance costs for reducing emissions from this industry even in the absence of about where we’re starting from,” said Gary Leach, CEO of EPAC, in an interview.

Four, climate change policies are the price industry must pay for new pipelines (Trans Mountain Expansion, likely Keystone XL, maybe Energy East in 2019), approval. Canadians overwhelmingly (over 80% according to an Oct. Abacus Data poll) support linking pipeline approvals with carbon taxes and oil sands emissions caps. More pipelines without such policies is politically impossible for the Canadian government.

Industry, particularly the smaller producers like Koch, must accept political reality.

Five, oil and gas investment in Alberta has declined less since the oil price collapse in late 2014 than in Saskatchewan, which does not have a carbon tax or emissions limits. Economist Trevor Tombe pegs Alberta 2016 oil and gas investment at 26.5 billion (a decline of under 50% from 2014), but Saskatchewan at just $6 billion (a decline of 67%).

“I’d say overall that it’s not at all obvious that policy uncertainty, broadly defined, is driving  the reduction in oil and gas investment,” Tombe said in an interview.

“It’s more than likely, the bulk of it, due to the drop in oil prices.”

Six, two years of low oil prices have kicked the stuffing out of the Canadian energy sector. When Alberta Energy Minister Marg McQuaid-Boyd blamed industry’s tentativeness on “the low and volatile price of oil” – about the only media commenter to do so – she was simply stating the obvious.

West Texas Intermediate only recently stabilized over $50 because of the OPEC/Russia production output deal, an agreement many observers think will not hold for long.

With the prospect of American shale companies ramping up production, adding to the global crude oil glut and potentially driving prices below $50 in 2017, no wonder higher-cost Alberta oil sands producers are cautious.

In the end, maybe Koch is right and greater regulatory burdens and compliance costs did help to sink its Muskwa SAGD project.

But the argument above suggests otherwise.

And as Tombe points out, the objective of the carbon tax is to encourage companies like Koch to innovate and adopt technology (e.g. switching from steam to diluent in SAGD) that lowers carbon-intensity.

Some can’t or won’t and the odd casualty is to be expected, I suppose.

But Tombe also says that for the industry as a whole, the carbon tax and the “carbon competitiveness regulation” will be “fairly muted” and there is more than enough information currently available for Alberta oil producers to calculate their tax and compliance exposure.

Climate policies are here to stay and the sky is not falling on the Alberta oil and gas industry, which should be looking forward to higher and more stable prices in 2017 – not to mention a more favourable investment climate.