Pipelines Lead Canadian Energy Debt Issuance as Producers Bide Time

Updated on
  • Infrastructure builders seen increasing borrowing 45%: BMO
  • E&P companies may need $60-plus oil to resume spending

A truck drives past oil tank farm in Alberta, Canada.

Photographer: Brett Gundlock/Bloomberg

Pipelines will lead the charge in Canadian energy companies in debt issuance this year amid signs the recovery in the industry is solidifying.

Bank of Montreal sees C$5.5 billion ($4.2 billion) in issuance from oil and gas pipeline companies like TransCanada Corp. in 2017, up from C$3.8 billion last year, as they fund ongoing projects. With oil below $60 a barrel, it’s still too early for companies most closely tied to commodity prices to start spending again. Exploration and production companies are expected to issue about C$1 billion to C$2 billion, largely to refinance existing maturities.

“A lot of the issuance does come from the pipeline names because of the type of infrastructure they’re building,” Manmit Pandori, an analyst who covers energy companies for Bank of Montreal’s BMO Capital Markets unit, said by phone from Toronto. The explorers and producers are “more in maintenance mode than they are in a broad growth in capital spending.”

The Canadian energy industry is stabilizing after being roiled by a plummet in oil prices from more than $100 a barrel in New York in June 2014 to $26 in February. Crude is now trading around $54, with forecasters in a Bloomberg survey seeing it holding between $55 to $60 through 2019. As oil rose, the cost of borrowing for Canadian energy companies dropped relative to government debt. Investors now accept a yield spread of around 160 basis points, or 1.6 percentage points, compared with more than 270 in February.

Best Performance

That improving picture helped drive highly rated Canadian energy companies to the best performance on the Bank of America Merrill Lynch Canada Corporate Index last year, returning 6.5 percent to investors. The index average was 3.6 percent.

Infrastructure companies are expected to tap the debt markets this year whereas last year they may have issued more equity, relied on credit facilities, or delayed a project or investment, Pandori said. Enbridge Inc.’s Line 3 pipeline replacement, TransCanada’s NGTL gas-pipeline system, and North West Redwater’s refinery construction are some of the projects with big spending, he said.

“It’s obviously a sigh of relief when you’re seeing some of the bigger guys with the balance sheets starting to spend again,” said Chris Kresic, portfolio manager in Toronto at Jarislowsky Fraser Ltd., which has C$6.5 billion in fixed-income assets. “That’s obviously a sign of confidence in the industry.”

Taking Steps

Some high-grade producers did tap the bond markets in the second half of last year, but those were for maintenance and refinancing, as opposed to new growth, Pandori said. Select Canadian large energy companies began announcing expansion projects at the end of last year.

“They’ve taken a lot of steps, to the industry’s credit, to make sure that their balance sheets are in order, they’re not getting downgraded below investment grade,” he said. Producers were taking advance of borrowing costs that had narrowed significantly since February.

TransCanada spokesman Mark Cooper declined by e-mail to comment.

Enbridge spokeswoman Suzanne Wilton declined by e-mail to speak specifically to Line 3, but noted that the project was part of a growth program that still had outstanding capital requirements that will be funded with debt and equity. Cost of capital is a “significant determinant” in when and where Enbridge chooses to fund from, she said.

Doug Bertsch, North West Redwater’s vice president of regulatory and stakeholder affairs, confirmed through a spokeswoman that the partnership expects to issue Canadian-dollar debt this year, and monitors for market conditions that may affect timing and amount issued.

‘Cheap Overall’

Surer signs of health in the energy industry would see explorers and producers ramping up along with the infrastructure companies, which will need to fill their pipes with something. It’s still too early to see much spending beyond the healthy, investment-grade producers, Jarislowsky Fraser’s Kresic said.

“Even if the price goes back to $60 a barrel, it’ll be tough for the amount of financing that was done before to reach those levels again any time soon,” he said.

Energy companies have also seen stock prices stage a dramatic recovery through 2016, leading the S&P/TSX Composite Index to the best performance among 24 developed markets. Given the recent jump in interest rates, companies are more likely to head to the equity market this year for financing, according to Rafi Tahmazian at Canoe Financial LP.

“My inclination would be that debt’s a tougher game to play now,” Tahmazian, senior portfolio manager in Calgary for Canoe, which has C$1 billion in energy assets, said by phone.

With the oil recovery, a better U.S. economic outlook and a need for pipeline capacity in Canada, Kresic sees a window for infrastructure companies looking to finish projects started years ago.

“They’ll still be coming to market,” he said. “Debt is cheap overall."

(Updates oil price in fourth paragraph.)
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