Canadian Oil Trapped Without More Pipeline Capacity

Adding insult to injury for Canada’s oil industry, Democratic Presidential candidate Hillary Clinton came out against the Keystone XL Pipeline on September 22, ending several years of silence and waffling on the controversial issue.

That comes as a blow to TransCanada, the project’s backer, who wanted to connect Canada’s oil sands to refineries on the U.S. Gulf Coast. The 1,179-mile pipeline would allow 830,000 barrels of oil per day to be exported from Canada. Clinton’s opposition will add some pressure on the U.S. President to reject the pipeline, which looks increasingly likely.

But if the pipeline is rejected, it won’t just be bad news for TransCanada, but also for Canada’s larger oil industry. Canadian crude trades at a discount to WTI, in part because of a lack of pipeline capacity. That discount has fluctuated over the years – ranging from $40 at a high point to around $15 today – but the bigger the discount, the more revenue is lost by Canada’s oil producers. Related: Peak Oil Has More To Do With Oil Prices Than You May Think

Now with oil prices less than half of what they were from a year ago, the discount that Canada’s oil sector must sell their oil for is even more painful. “At $100 a barrel it was a big concern. At $45 a barrel, that is a far larger percentage (of revenue) and is likely the difference between profitable and unprofitable on many of the assets,” Tim McMillan, president of the Canadian Association of Petroleum Producers (CAPP), told Reuters in an interview in early September.

Canada’s oil sands tend to suffer from higher production costs compared to U.S. shale. “The competitive position of Alberta has decreased fairly dramatically,” McMillan recently told The Globe and Mail. But part of the costs have to do with the long distance that Canadian oil has to travel, and the scant transit options at its disposal. “We need to have our costs in line. We need to clear the barriers. We can’t afford to pay [a] $20 toll per barrel to get our products to market,” McMillan added.

As such, CAPP says that accelerating the construction of new oil pipelines should be a top priority for the next Canadian government, following the October 19 election. The race for prime minister is currently split evenly between three candidates. New pipeline capacity will be crucial for Canada to be able to erase, or at least cut down on, the discount that Canadian oil must offer. Related: Oil Companies Running Out Of Options

CAPP’s McMillan says that without adequate market access from new pipelines, Canada won’t be competitive. At that point, “we are out of the game,” he said, according to the National Post. The collapse in oil prices forced CAPP to downgrade its long-term assessment for Canada’s oil production in June. Instead of the 6.4 million barrels per day (mb/d) that CAPP predicted would be produced in Canada in 2030, the projection was revised down to just 5.3 mb/d, as low prices force cutbacks in investment, which will lead to lower production over time.

Indeed, the cuts are underway. French oil giant Total announced on September 21 that it would sell 10 percent of its stake in its Fort Hills project in Alberta. Suncor Energy will buy the interest for $300 million and expects to move forward on the project’s development, but Total will retrench and focus on assets outside of Canada that it thinks are more competitive.

And oil major ConocoPhillips is closing in on a deal to sell several of its assets in Western Canada. Related: Iran Deal May Redefine The Middle East

With falling investment and the potential that oil prices stay “lower for longer,” the “era of big megaprojects” in Canada’s oil sands could be over, says Peter Tertzakian of ARC Financial. “The oil sands has to compete for capital with all the other types of oil projects that are out there. It has to morph into something cleaner, smaller in size and less capital intensive. It’s definitely possible to do, but the old paradigm of 4,000-man camps and long construction periods is over,” Tertzakian told Alberta Oil Magazine this month. And the problem isn’t just that oil companies are being more cautious by deferring spending on projects. Institutional investors are also balking at putting money up for oil sands projects. “There’s zero interest in investing in the space right now,” Tertzakian said.

In CAPP’s June assessment of the long-term status of Canada’s oil industry, the group said that the construction of pipelines is the top priority. But with the U.S. potentially closing the door on Keystone XL, the industry will have to find another way. Otherwise, less oil will be flowing from Canada’s oil sands.

By Nick Cunningham of Oilprice.com

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