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Collateral gain

The market's gaze may be on tight oil's reaction to the Opec deal. But the agreement buoys Canadian suppliers too

Ten years ago, oil prices were on a tear towards $100 a barrel and Saudi Arabia's then oil minister, Ali al-Naimi, joked that Canada - producer of the world's highest-cost barrels in the oil sands - should join Opec. The insinuation was that Alberta's oil patch, which like that in Opec countries also dominates its local economy, was thriving only thanks to the price stability offered by the group.

Canada politely ignored the invitation, not least for ideological reasons. Now, though, Opec has done Alberta and its oil sands another favour. The group's cuts, alongside those it cajoled out of several non-Opec members, offers a lifeline to the oil sands, which have been battered by last year's wildfires and the slump in crude prices. Recent price strength means producers, already planning to add another 300,000 barrels a day of supply in 2017, can start to think about further growth. Another 1m b/d of proposed expansions have been authorised by government regulatory agencies in the past six months alone.

None of those barrels would be economic at an oil price beneath $50/b. But the margin between profitability and loss has narrowed as costs have come down, in some cases by more than 30%. Analysis by TD Securities, the investment arm of the Toronto Dominion Bank, suggests that a sustained WTI price of $60/b would be enough for developers to start turning authorised projects into under-development ones.

Even without a strong price recovery this year, the oil sands will produce more

While Opec's maximalist supply strategy of the past couple of years was considered a policy designed to beat back American tight oil, Canada's output seemed to pass beneath the radar. Yet Canada and Opec remain big rivals in the US market. Exports from Canada to consumers south of the border have more than doubled in less than a decade. Four of every 10 barrels now imported into the US come from Canada, according to the US Energy Information Administration.

Even without a strong price recovery this year, the oil sands will produce more. The play's projects have long lead times and construction schedules, so many of the developments about to yield fresh supply were sanctioned before the oil price cratered. And, unlike conventional oil wells, or those in the US shale sector, oil sands projects can't be shut off at the flip of a switch. For many, it's cheaper to produce money-losing barrels than shut them in.

Not that all producers are happy, even with the recent uptick in prices. France's Total, for instance, has for more than two years been steadily selling down its oil sands interests in Suncor's Fort Hills mine. In December, Norway's Statoil sold virtually all its Canadian operated oil sands production for C$0.83bn ($0.63bn), less than half the C$2.2bn it paid in 2007, when it pledged more than C$10bn towards a new oil sands mine. The firm sucked up a $0.5bn write-down to rid itself of the assets.

Despite the exit of international majors, homegrown producers are more than willing to fill the gap, betting that Opec will follow through with its production cuts and prop up prices. On 11 January, MEG Energy, a mid-sized Alberta firm, announced plans to restart a C$400m project it shelved two years ago during the price rout. In December, barely a week after the Opec deal was struck, Cenovus Energy said it was restarting construction on Phase G of its Christina Lake thermal operation. Announcing its capital budget, Cenovus boss Brian Ferguson boasted that the restart was only possible because its long-term oil sands sustaining costs have fallen 50% since 2014, to $7/b.

But these are risky bets. Even the most optimistic forecasts don't expect oil prices to rise above $75/b well into the next decade. While renewed enthusiasm suggests the worst may be over for oil sands producers, some caution is still plain. The new developments are only incremental brownfield expansions. New greenfield mega-projects are unlikely without more certainty over long-term prices and more deflation in capital costs.

So while Opec's deal will buoy prospects for growth - at a slower, steadier pace - a return to the boom days of unbridled expansion is not imminent. That may be a positive outcome for both Canada and Opec.

Source: National Energy Board
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