Alberta’s oil-sands industry, Canada’s growth engine for a decade, is looking for ways to right itself as the crude-price shock forces massive spending cuts needed to avoid the fate of the nation’s battered auto sector.
The Group of Seven’s biggest oil exporter may see drilling investment slashed by $23.2 billion in the coming 12 months, according to data compiled by Bloomberg. That’s a 29 percent reduction from the previous 12 months and the biggest since at least 2007, according to data on 70 companies with a minimum market value of C$500 million ($410 million).
For a country already facing slow economic growth, a big question for policy makers is whether energy is about to go the way of the auto industry, which had been the biggest contributor to exports. The last recession in 2009 closed scores of factories that officials have said aren’t coming back. With energy capital expenditures down so much this year, there’s the prospect of longer-lasting damage.
“There is a risk but it’s obviously conditional on what the outlook for oil prices is,” Bank of Canada Governor Stephen Poloz told reporters Tuesday after a speech.
The price of oil has crept up to about $60 a barrel in recent weeks from an intraday low of about $42 in March, the lowest since 2009. Even at current prices, most Canadian drillers are holding back on expansion plans.
Falling energy investment probably helped stall Canada’s economy in the first quarter, and is priming a recession in Alberta. Fewer petro-dollars mean larger government deficits and tens of thousands of job losses in manufacturing and construction. Poloz cut his key interest rate to 0.75 percent in January calling it “insurance” against a ripple from a plunge in investment.
The largest spending reduction in the coming 12 months, according to analysts’ estimates complied by Bloomberg, will be $5.31 billion at Canadian Natural Resources Ltd., or 47 percent of its previous spending.
“We need to see some stability” in oil prices, Canadian Natural President Steve Laut said on a May 7 conference call. “As we get to that point and we feel that the pricing is solid, we’ll put capital back to work. But not before then.”
The auto industry, based in Ontario, has suffered from high costs relative to other countries. The strengthening of Canada’s currency to parity with the U.S. dollar in 2007 and again this decade prompted the closing of hundreds of factories, which faced tougher competition in Mexico and even the U.S.
The value of automobile factory sales has stumbled over the last decade. Sales of C$7.36 billion in March remain below the C$8.14 billion recorded 10 years earlier and a partial recovery from the C$3.92 billion from the same month in 2009 as the recession took hold.
There has been some relief this year with the currency weakening to about C$1.20 per U.S. dollar as growth picks up in the U.S., buyer of three-quarters of Canada’s exports. Among the few bright spots, the Canadian unit of Honda Motor Co. announced in March it will build and export as many as 40,000 CR-V sport utility vehicles annually to the European Union.
General Motors Co. on April 30 confirmed the imminent end of production of the Chevrolet Camaro in Oshawa, Ontario, and the elimination of 1,000 jobs. That announcement came the same day the Detroit-based company said it would spend $5.4 billion on its U.S. plants during the next three years as the automaker prepares to build a series of new models.
The energy industry may avoid the fate of Canada’s manufacturers because Canada’s oil isn’t going anywhere, while factories can be moved around the world, said Alan Arcand, an economist at the Conference Board of Canada in Ottawa.
The question is whether the oil sands will continue expanding, said Nick Exarhos, an economist at CIBC World Markets in Toronto.
“Producers aren’t shuttering operations in Canada in response to the oil shock, as manufacturers had done in response to the strength in the Canadian dollar,” Exarhos said. “If prices rally back, Canada still remains an attractive destination for energy investment, given geopolitical concerns in other important oil producing countries.”
That leaves the effort to cut costs as a key risk to the industry’s future. Governor Poloz said this week the economy should return to full output around the end of next year as non-energy companies take advantage of a U.S. recovery, and said even energy companies appear to be turning things around.
“What I am encouraged by is the decline that we observed in costs throughout the energy system, so suppliers and services, and that suggests that we are steadily improving our competitiveness in that sector for a given oil price,” Poloz said.
Can the oil-sands operators reduce costs sufficiently to offset the effects of lower prices? To do that, companies like Crescent Point Energy Corp. are being forced to spend less and use their trucks, drilling rigs and workers more efficiently.
“Those are the innovations and opportunities that arise in a downturn that strengthen the industry, strengthen our company” Crescent Point Chief Executive Officer Scott Saxberg said.
In January, Crescent Point cut capital spending by 28 percent from an earlier target to C$1.45 billion. Saxberg wants to ratchet down costs by 30 percent by the end of the year as he demands lower prices from suppliers and implements new drilling technology.
Suncor Energy Inc. was able to produce a barrel of oil-sands crude for C$28 in the first quarter compared with C$40 five years ago, said Chief Executive Officer Steve Williams, who in January announced 1,000 job cuts and trimmed spending by about C$1 billion.
“It’s becoming clearer that the oil sands is not the marginal player,” Williams said last month at the company’s annual shareholder meeting. “We’ve covered all of our costs even at these prices.”
With Suncor pressing ahead with its Fort Hills oil-sands mine, and other companies doing the same with their own projects, growth in oil-sands production is set to expand to more than 3 million barrels a day by 2020, according to the Canadian Association of Petroleum Producers.
That expansion is doing little for Alberta this year, which will fall into a recession as output contracts 1.5 percent, the Conference Board of Canada said last week. The $40 billion of lost oil revenue and a 23 percent drop in energy investment will hurt Alberta and slow Canada’s growth to 1.9 percent this year from 2.4 percent in 2014, the board predicts.
“Lower prices will set in motion a long adjustment in supply. There will be permanent losses here,” said John Johnston, chief strategist at investment manager Davis Rea Ltd. in Toronto. “Like a decade-long surge in the Canadian dollar and commodity prices, this assumes a long period of commodity and oil price weakness.”
It’s still unclear how the energy industry will react to lower prices, said Hunter Harrison, CEO of Canadian Pacific Railway Ltd., which ships crude by railcar across North America.
“Everything is up in the air” in the energy industry, Hunter told reporters in Calgary last week. “Very few people have been through this before.”