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Globe & Mail: Slew of deals shows oil sands fever not breaking

In spite of increasing construction costs, $38-billion worth of agreements and development plans announced last week

Canadian Press; Reuters
August 6, 2007

CALGARY — The bout of oil sands fever sweeping through northern Alberta shows no sign of slowing down.

An eye-popping $38-billion in deals and development plans announced last week show skyrocketing construction costs haven’t dampened interest, only that those intrigued have a blueprint for mining and refining the buried energy treasure.

“The size of the prize is very large, so everybody is going hell bent for leather,” said Martin Molyneaux, managing director of institutional research with FirstEnergy Capital.

Shell Canada’s plan to spend up to $27-billion on Canada’s biggest oil sands upgrader, the $6.6-billion friendly takeover bid for Western Oil Sands Inc. by U.S. refiner Marathon Oil Corp., and a $4.4-billion regulatory strategy filed by Suncor Energy for the mining plan of its Voyageur South site all indicate the need to ensure a smooth development path for the tar-like bitumen.

“Securing that midstream upgrading and the downstream refining solution is going to be a challenge that all producers in the oil sands are going to have to overcome,” said oil and gas analyst Chris Feltin with Tristone Capital.

“Those that can are going to be able to continue with their development strategy – potentially benefiting from better costs, but I think the key is being able to integrate those strategies,” he said. “It’s one thing to have these oil sands assets, but it’s really important for these developers to have downstream solutions to handle the crude they produce.”

Suncor’s Voyageur expansion adds the basis to take the company beyond its goal of 550,000 barrels a day by 2012. A cost estimate of upgrading plans and details of the operation’s scope and projected capability, is expected to be filed later this fall, but that will likely be in the range of $7-billion to $8-billion.

“This sets the stage for beyond 2012,” Mr. Molyneaux said. “It’s all about redeploying your cash flow, and the amount of cash you have once you get up to 500,000 barrels a day is enormous.”

Suncor has a reputation as the best in the business for keeping oil sands projects on budget.

“It’s the surprises that cost you in the oil sands,” Mr. Molyneaux said.

Still, adding these extra megaprojects with aggressive timelines to the already overheated Alberta construction plate is sure to push escalating costs even higher.

Alberta has been crying for skilled workers for more than a year to cope with a staggering crush of infrastructure and energy development. Demand for oil sands labour is forecast to rise from 15,000 today to 34,000 by 2010 and that was before the Shell and Suncor plans were announced.

“There are a lot of issues with going that fast,” said Justin Bouchard of Raymond James. “You’ve seen capital costs double or triple in the last six years and a lot of that is the overall boom in the energy sector.”

That in turn is pushing margins to what could be an economic wall. When the $14.1-billion first stage of the Fort Hills oil sands development was announced in June, Petro-Canada and its partners projected a rate of return under 10 per cent.

“That’s pretty skinny economics,” Mr. Bouchard said. “If the continued pace of development causes increased capital costs, if there are more strikes, there will definitely be a point where some players will be delaying projects because it makes no sense to build it now.”

That has already happened.

Canadian Natural Resources Ltd. has put its Wolf Lake upgrader on hold, while Synenco Energy Inc. sought “strategic repositioning” and is up for sale after costs of its Northern Lights project ballooned to $10.7-billion.

Alberta Premier Ed Stelmach has signalled he won’t change the province’s business-knows-best mantra and will impose no regulatory brakes to slow down screaming activity levels. And while an Aug. 1 report from the Conference Board of Canada said labour and material shortages in Alberta were pushing costs of new energy projects to near prohibitive levels, it’s becoming clear that the new playing field means it’s only who can absorb those long-term costs who can see development through to the payoff.

That means an increased presence of global players such as Royal Dutch Shell PLC, which takes control of Shell Canada on Sept. 4, or European integrated giant Total SA, which has been looking to solidify its place in the oil sands. Both could place a rival bid for Western Oil Sands.


Fat wallets and limited opportunities elsewhere may continue to push acquisitions in the oil sands, analysts say, though soaring costs may leave the sector open to only the very biggest companies.

“There isn’t much left there for assets,” says Kyle Preston, an analyst with Salman Partners.

The massive scale needed to justify an investment in the region means the next wave of buyers of oil sands assets may be large, integrated oil and gas companies, energy bankers said.

With deep pockets and easy access to low-cost capital, the biggest firms are best able to handle the high costs of construction, operations and labour in the region, the bankers said, but they will have to get past some roadblocks.

Finding large, high-quality assets may be difficult because many, such as the Shell-operated Athabasca project in which Western has a 20-per-cent stake, are already controlled and operated by the large integrated companies.

“I think people have pored over the region pretty extensively,” one energy banker said.

Valuations are high and the biggest players – like No. 2 producer Suncor Energy Inc., with a stock-market value of more than $44-billion – are likely too expensive for all but the biggest companies to acquire. But while a big-ticket deal is considered unlikely, it’s not out of the question.

“Anything can be sold,” said Mark Friesen, an analyst with Calgary-based FirstEnergy Capital.

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