The Latest Hot Spot For Offshore Oil

Oil prices may be lower than they have been in over a half decade, but that hasn't slowed the interest in Canada's oil reserves off of its east coast.

A consortium of companies just submitted a bid for the parcels off the coast of Newfoundland, Canada's largest ever bid for offshore blocks. Led by ExxonMobil (NYSE: XOM), the group bid $559 million for the rights to 266,000 hectares in the Flemish Pass, a stretch of water east of St. John's. ExxonMobil has a 40 percent working interest, with Suncor Energy (NYSE: SU) and ConocoPhillips Canada Resources (NYSE: COP) each with a 30 percent stake.

Separately, ExxonMobil and Suncor bid $21 million for a 298,000-hectare tract in the Carson Basin, south of the Flemish Pass. ExxonMobil also bid by itself for 109,000 hectares in the Jeanne D'Arc basin, which is a bit closer to shore, west of the Flemish Pass.

The licenses to the acreage are expected to be finalized in January if the government issues an approval. That should not be a problem, since the provincial government of Newfoundland and Labrador depends on oil revenues for one-third of their budget. The government was already projecting a deficit for the coming fiscal year when crude oil prices were higher than $100 per barrel. Now they are in much greater need of revenues.

To date, it has been the Jeanne D'Arc basin where much of oil exploration has been conducted - all of the current offshore production is located there. The Hibernia field began production in 1997, and uses a gravity base structure (GBS) that attaches to the ocean floor. These reinforced structures are needed to deal with rough waters and icebergs. Hibernia produced 126,000 barrels per day as of 2009, and the companies involved - ExxonMobil (33%), Chevron (NYSE: CVX) (26.875%), Suncor (20%), Canada Hibernia Holding Corporation (8.5%), Murphy Oil (NYSE: MUR) (6.5%) and Statoil Canada (NYSE: STO) (5%) - have drilled water injection wells to keep production from falling. This aging field has been the core of Newfoundland's oil production, but is past its prime.

If you travel 32 kilometers to the southeast, you would come across the Hebron field, another relic of Newfoundland's offshore past. The cast of characters is familiar - ExxonMobil (36%), Chevron (26.7%), Suncor (22.7%), Statoil (9.7%), and Nalcor Energy (4.9%). The heavy oil field was discovered in the 1980's, but will only come online in 2017 with initial production expected at 150,000 barrels per day. It has proven to be costly, and with heavy oil trading at a discount, it may not be all that profitable. But the group is determined to finally bring the project to fruition.

But forget these wells. The real excitement is in the Flemish Pass, which has hardly been explored. There have been just 10 wells drilled as of early 2014, compared with over 200 in the nearby Jeanne D'Arc basin.

The excitement is largely the result of a major oil discovery in 2013 by Statoil. The Norwegian firm, along with its partner Husky Energy Inc. (TSE: HSE), made two major oil discoveries in the Flemish Pass in September of last year. In particular was the Bay du Nord well, which Statoil says may hold 300 to 600 million barrels of oil. The find was huge for Statoil, and represented the company's largest discovery outside of Norway.

In fact, the Bay du Nord was Statoil's third discovery in the region. Preliminary data shows that the Mizzen discovery may hold 100 to 200 million barrels of crude, while the Harpoon well is still being evaluated (see map).

Not only that, but the 34 API means that the oil is light, and Statoil says it comes from "excellent Jurassic reservoirs with high porosity and high permeability."

"We rank the Grand Banks and the Flemish Pass Basin very highly," Geir Richardsen, the vice-president of Statoil Canada's exploration unit, said at the time. "Canada is a core area for us; it's an environment where we hope to create good value." Statoil hopes to begin production sometime after 2020.

The discovery also kick-started interest in a region that has not been highly regarded for its oil production. The province is only producing 280,000 barrels per day, but the Bay du Nord well was Newfoundland and Labrador's biggest discovery in decades and could turn the region into a serious source of production.

That has ExxonMobil chomping at the bit. ExxonMobil's $559 million bid for Flemish Pass territory was the largest ever for any offshore field in Canada. Separately, Chevron conducted 3D seismic surveys to learn more about what it's sitting on with its acreage in the Flemish Pass and may proceed with drilling at some point.

Then there is the Carson Basin, which has seen even less attention. There have only been four exploration wells drilled in the Carson Basin, a broad area of open waters located south of Jeanne D'Arc and the Flemish Pass. All four of those exploration wells were drilled in the 1970s and 1980s. The 50,000 square kilometer section is located in shallow and intermediate deepwater (90 to 3,300 meters in depth). While the region has not seen a lot of exploration activity, the Carson Basin is located not far from the major discoveries at Flemish Pass and Jeanne D'Arc, raising hopes that similar geology extends southward to Carson. Not much more is known about Carson, but the provincial government is confident that the basin holds significant oil and gas potential. ExxonMobil, with its bid, will be one of the early birds to the Carson Basin. But by only paying $21 million for its section, ExxonMobil is merely dipping its toes in the water and is not putting a ton at risk.

Canada has relied almost entirely on its oil sands for hydrocarbon production and it hasn't had much of an offshore industry to date. While the oil and gas reserves off the coast of the province of Newfoundland and Labrador have been known since at least the 1960's and 1970's, the coastal waters have been a middling oil producing region at best.

But all of that could change. Statoil's Bay du Nord discovery of up to 600 million barrels has been billed as a "game changer." It has sparked enormous interest, and has buoyed optimism for the provincial government. The consortium led by ExxonMobil put up $559 million, an indication that they are taking Statoil's discovery seriously.

There may be obstacles to development, including high costs and severe weather conditions, but offshore Newfoundland also has advantages over other oil producing regions in Canada. First and foremost, oil produced offshore does not have to deal with clogged pipeline infrastructure. The oil sands in Alberta are facing steep discounts due to inadequate pipeline capacity. Offshore Canada won't have that problem.

Even better, one of the ten largest oil refineries in North America is located just onshore in St. John's Newfoundland, controlled by Irving Oil. Oil that is produced offshore could be immediately refined and exported to northeastern states in the U.S.

Finally, while some of the legacy oil is of the heavy variety, Statoil's oil is light, which should allow it to fetch a higher price. That has raised hopes that other fields will prove to be similar.

Major production is still years away, but Canada is in the midst of finally building a serious offshore oil industry.