THE CONTAGION SPREADS
ALBERTA: As crude prices fall and banks tighten the purse strings, producers forced to weigh their options
NORVAL SCOTT AND DAVID EBNER
September 17, 2008
CALGARY and VANCOUVER -- As the U.S. banking crisis boosts borrowing costs and crude prices plummet on global demand fears, the economics of building oil sands projects are coming under pressure.
The price of oil, which fell to $91.15 (U.S.) a barrel - its lowest level since Feb. 11 and a far cry from the nearly $150 price in July - is approaching levels at which firms will start to question the profitability of new billion-dollar oil sands projects.
A new steam injection project now requires oil at $70 a barrel to make money. For a mine, which includes an upgrader to turn the bitumen into synthetic oil, $85 a barrel is needed for a project to make money, National Bank Financial said earlier this month.
The intensification of the U.S. banking crisis means it is now significantly harder for companies to raise the estimated $170-billion worth of investment expected in the oil sands over the next decade.
"The crude price itself is still fairly strong, but the broader financial situation is now more questionable," said First Energy Capital Corp. analyst William Lacey. "The cost of getting access to capital has changed, at least for the near term, and that's the bigger problem."
While the oil sands region is typically the purview of the world's largest energy companies, it's also inhabited by scrappy smaller firms that often rely on technology to compete with the big players. The market uncertainty will favour big companies with deeper pockets, while junior oil sands companies are more likely to feel the credit pinch and seek deals. Others will slow the pace of development because capital will be harder and more expensive to secure.
Upstart Laricina Energy Ltd., which is hoping to receive regulatory approval for one proposed project this fall and has another in the pipeline, is typical of some of these companies. The company has some cash on hand but needs more to proceed.
In light of the quick drop in oil prices and the tight credit and equity markets, the company will carefully weigh its plan and see how the crunch evolves in the months ahead, said chief executive officer Glen Schmidt.
Some projects could be scaled back or slowed down, he suggested. "We will be thoughtful in our capital expenditures," he said.
For larger firms, week-to-week oil price fluctuations and the cost of capital are less of a driving force in decision making. Oil sands projects generally produce for at least 20 years, so long-term oil prices are more important in their calculations than the price today.
"If the industry ran for cover every time the oil price gyrates, not much would go on in the oil sands," said Bob Skinner, vice-president at Norway's StatoilHydro ASA , which plans to spend $16-billion on new oil sands projects. "These are very large assets that take a long time to build."
But even big companies aren't completely insulated from falling prices. Last week, Total SA CEO Christophe de Margerie said the French company wasn't giving up on the oil sands, but added that a final decision to build a mine and upgrader, expected in 2010 or 2011, might become more difficult if oil prices drop much below $90 a barrel.
A scheduled increase in royalties will also decrease the potential return of oil sands projects. The royalty rate changes on Jan. 1 from a flat rate to a sliding scale of 25 to 40 per cent based on oil at $55 to $120 a barrel, at which point the rate stops rising.
The falling oil price will also pinch government budgets. Alberta had expected $5-billion (Canadian) in 2008-09 from oil, at a price of $78 (U.S.) a barrel. Recently, it raised expectations to $8.5-billion on a price of about $120. With oil at $100, almost $2-billion less would come in.
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