The recent recommendations from Alberta’s royalty review panel put me in mind of the old joke. Here’s the abridged version:
Alberta spares oilsands companies in new royalty regime according to revenues, not oil prices
The Alberta government’s $3 million royalty review, which had the energy industry tied in knots for months, turned out to be an expensive lesson.
Continue reading.
A reporter gets assigned to investigate tales of the fantastically gifted pig who resides on a farm outside the city. So he drives to the farmhouse on a warm summer’s day and knocks on the door. Door opens, there stands a handsome, three-legged pig, who proceeds to accept reporter’s hat and coat, shows him towards the living room, and serves him a glass of lemonade.
The farmer joins the reporter and also the interview proceeds, the reporter dutifully taking notes around the lifetime of Wilbur (this is the pig): How the farmer realized Wilbur’s smarts at an early age; how he educated the porcine prodigy around the arts, history and the nuances of household service; how Wilbur helps the children with homework; and so on. All the while, Wilbur is doing his thing – preparing coffee and sandwiches, collecting the bathroom (and doing them), even playing the piano a bit for the human duo’s entertainment.
As the interview approaches its conclusion, the reporter asks his final, perhaps most delicate question: “How,” he asks, “did Wilbur come to lose certainly one of his legs?”
“Oh well, you realize,” answers the farmer matter-of-factly, “you do not eat a pig like this all at one time.”
Rimshot.
OK, so nobody was laughing either following the Alberta royalty review panel came to its long-awaited conclusions, which basically recommended that the province not eat anymore of the pig, but without doubt many within the oilpatch were breathing a sigh of relief.
Just to recount, the panel was appointed months ago through the NDP government of Premier Rachel Notley. Notley’s invective against the existing royalty regime during last year’s provincial election – to the effect that Albertans were getting ripped off – had some in the oil industry fearing the worst.
Well, the worst (or even the best, depending on how you look at it) didn’t happen. Those who understand the ins-and-outs of royalty schemes won’ doubt have their own more detailed views, but the important takeaway is that the panel’s recommendations were pretty middle-of-the-road, and won’t likely end up changing very much.
Should investors care? Well, sure. Under Alberta’s royalty regime, the government collects 60 to 70 percent associated with a oil revenue remaining after operating and capital costs. Whether that’s fair or otherwise – well, you choose. But compared with other oil-producing jurisdictions, it’s more or less competitive. (Saskatchewan, though, takes a smaller share.)
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Another point is that the panel’s recommended royalty structure will reward low-cost operators (who will keep a bigger piece of the pie) and punishes high-cost operators (who’ll tight on remaining after operating costs to share). Because the oilpatch concentrates on costs and activly works to improve efficiencies, that kind of structure appears to make sense.
So, all in all, it might happen to be much worse for Alberta energy producers. The panel’s recommendations suggest that the NDP government will accept reason even just in the face of ideology, a minimum of occasionally, and also the industry might expect some level of policy stability moving forward, a minimum of when it comes to royalties.
Lord knows it’s enough changes to consider in other locations. No one yet knows what the impact of the province’s new carbon tax plan will be. As well, the new federal government’s method of pipeline approvals, environmental reviews and also the role of the National Energy Board comprises another unknown around the regulatory level.
But the truth is that this doesn’t matter very much to the short-term prospects of Canadian energy companies or their investors. To mix my animal metaphors, there’s an elephant within the room – in other words, an elephant not within the room, but a large number of miles away.
Last week, energy stocks rose, with S&P/TSX capped energy index up a lot more than eight per cent. It’s impossible to tell just how much that rise had to do with Alberta royalties, but probably not a great deal. Since oil prices rose a lot more than 10 per cent – from below US$30 for West Texas Intermediate to north of US$33 – what’s really determining the cost of Canadian energy stocks is, well, energy prices.
And those are now being determined far away from Canada. Russia says that OPEC has proposed a five-per-cent production decline in partnership with non-OPEC producers. A report from Saudi Arabian television on Sunday suggests that the Saudis are open to dealing with other producers to aid the market.
Who knows when the resulting speculation is going to be borne out. Maybe OPEC has had sufficient time selling in the cheaper. Or maybe it’s just seeing how far it can talk up oil prices without actually cutting production.
Either way, what this highlights, sort of by comparison, is the lack of pricing power for Canadian oil producers. Better export infrastructure – i.e. more pipelines – would help, as Canadian product currently sells for a cheap price to global prices partly because it’s expensive for get out of the country. But given history and the government government’s signals, that path is far from clear.
At least the royalty review panel has removed a possible irritant. When oil prices recover, the lack of uncertainty might encourage, or at best not discourage, re-investment within the oilpatch, which should enable Canadian producers to understand the benefits of rising prices sooner.
But for many investors now, and costs still within the basement, you will find bigger things to be worried about in Canadian energy – and also to hope for.
