Alberta Spares Oil-Sands Producers in Royalty Revamp on Glut

  • Province sees “existential threat” from U.S. shale boom
  • Flat rate set for other forms of crude and natural gas

Alberta’s oil-sands producers dodged a bullet after the Canadian province recognized the industry faces an “existential threat” from the U.S. shale boom and left rates unchanged for heavy oil in a long-awaited royalties review.

A panel found the current 1 percent to 9 percent rate on revenue from so-called bitumen mines before costs are paid off, and as much as 40 percent after that, is “appropriate,” Premier Rachel Notley said in a prepared statement Friday. Some rates for other forms of crude and natural gas will decline on wells drilled next year and beyond.

“At this moment in our history, with prices and markets being what they are, what Albertans need us to do is help improve their and industry’s returns by removing distortions and disincentives in the system and ‘grow the pie,”’ Notley said.

The revamped payment regime comes as Alberta’s oil industry is suffering from plummeting crude prices that have made many oil-sands operations unprofitable. Companies have slashed budgets and reduced their workforces in a bid to stay afloat and weather the sinking commodity market. No large-scale oil-sands projects are expected to be developed in the foreseeable future because of oil prices and increased competition for investment, the panel said.

Gas Incentive

The review, which initially stirred concerns that costs would rise for producers, also included provisions to encourage the use of gas for a wider range of petrochemicals and more upgrading of bitumen and oil.

The Standard & Poor’s/TSX Energy Index extended gains after the announcement, rising 1 percent as of 3 p.m. in Toronto, after declining as much as 1 percent earlier. Suncor Energy Inc. was down 0.4 percent at C$32.70, paring earlier losses of as much as 1.9 percent.

The plan removed a ‘perceived overhang’ as similar rates of return are targeted at both the old and new frameworks on average, RBC Capital Markets said in note to clients.

This is “better than people would have expected,” Rafi Tahmazian, a portfolio manager at Canoe Financial in Calgary, said by phone. “But I think there is still a massive unknown here in the range and pace of acceleration of the royalty after payout” for conventional production, he said.

Conventional Production

The new rates for non-oil sands production will be applied only to wells drilled after 2017. The flat rate of 5 percent applied to oil, natural gas and gas liquids in the early stages of drilling is a reduction in some cases from as much as 30 percent and is designed to provide an incentive for drillers, the panel said. The cost of the new carbon price will be considered an additional cost that companies can deduct against revenue. The oil sands accounted for about 57 percent of Canadian production in 2014, according to the Canadian Association of Petroleum Producers.

“Completion of the royalty review provides certainty, predictability and helps increase investor confidence in the province,” said Bill McCaffrey, chief executive officer of oil-sands producer MEG Energy Corp., in a statement.

Regulation Overhaul

Alberta’s left-leaning New Democratic Party government has implemented sweeping changes to the industry, including policies that will limit carbon emissions and an increase in corporate taxes. Notley rose to power last May in a wave of voter discontent after more than four decades of rule by Progressive Conservatives that worked closely with Calgary’s oil executives.

Those same executives have warned about the risks of tampering with a royalty system that spurred more than C$100 billion ($71 billion) in oil and gas investments over the past 15 years, which until last year made Alberta the engine of the Canadian economy. With the review complete, some of the policy uncertainty associated with the change in government has been reduced.

“The new royalty framework is principle-based and provides a foundation to build the predictability industry needs for future investment,” said Tim McMillan, CEO of the CAPP lobby group, in an e-mailed statement. “The fact that the new rules will only apply to projects starting in 2017, and maintaining the oil sands royalty regime, are signals that the government is serious about encouraging investment in Alberta at this difficult time.”

Declining Revenue

Royalty revenue has plummeted to an expected C$2.8 billion in the current fiscal year compared with more than C$10 billion in 2009. The new royalty regime isn’t expected to increase the government’s take until oil prices increase and projects reach payout. It also won’t have an impact on the budget for the next two years, Alberta Finance Minister Joe Ceci said in an interview after the announcement.

The collapse of oil prices has put a dent in Alberta’s treasury, which relies on fossil fuel royalty revenue to pay for roads, hospitals and schools. The government expects a deficit in the fiscal year that ends in March of more than C$6 billion and is implementing a plan to lower dependency on royalties.

Alberta competes for investment in the oil industry with neighboring Saskatchewan as well as parts of the U.S., where the shale industry has boomed in recent years.

Alberta’s royalty payments of up to 40 percent, not including corporate taxes, contrast with Norwegian taxes amounting to 78 percent of oil producers’ profit, with no royalty payment. The U.K. also collects taxes with no royalties for wells in production since 1993. Alberta allows companies to deduct capital costs from the revenue that’s subject to the royalties.

The last time Alberta attempted to renew its royalty regime was during the Great Recession, when the recommendations of the appointed panel were not implemented by the Progressive Conservative government under pressure from an industry suffering from slumping commodity prices and demand.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE