Laricina scenario exposes tech trouble
The energy sector has survived, grown and prospered because of its ability to innovate and commercialize new methods of exploration, development and extraction processes that boost production and lower costs.
Its history is dotted with names like Rockefeller, Mitchell, Clark, Butler and many others.
Whether it’s looking for ways to reduce costs to remain competitive or access new geological formations because conventional sources have been depleted, the need for intellectual and financial horsepower to find new ways of producing a barrel of oil or a cubic metre of natural gas never ends.
That’s why this week’s news of Laricina Energy receiving creditor protection under the Companies’ Creditors Arrangement Act is disappointing — and on a scale beyond only the company.
The short story on Laricina is that it’s technically in default of its debt covenants regarding $ 150 million held by a subsidiary of the Canada Pension Plan Investment Board. While you can question why a company without production would issue $ 150 million in debt, Laricina’s situation is both interesting and complex.
The company has been working to apply new variations of steam- assisted gravity drainage techniques to bitumen reserves contained in the Grosmont carbonate formations at its Saleski and Germain plays. The Grosmont reserves are estimated to be 400 billion barrels in size and the company had received regulatory approval for Phase 1 at Saleski, with commercial production targeted for 2017. At the time of the CCAA protection, the Saleski pilot was producing 300 barrels a day.
Laricina has been working to find a way to extract those reserves on a cost- effective basis since its inception in 2005 and the company has published many peer- reviewed papers about its work, and has filed three patents.
At the time of the CCAA protection, Laricina had $ 174 million of debt owed to CPPIB Credit, reserves valued at $ 7 billion and $ 140 million in cash.
Chief executive Glen Schmidt said Wednesday the company has enough coverage with respect to the outstanding debt, from the perspective of cash plus assets.
A particularly confounding piece is that the CPPIB is also Laricina’s largest shareholder with a 15.3 per cent equity interest in the company. It therefore appears that while the private equity arm of the CPPIB is playing the long game, the debt side represented by CPPIB Credit is playing something more akin to a hedge fund — loan to own.
That disconnect within the CPPIB is interesting given comments Tuesday by one of its representatives, who said the $ 150 million was in the “best interests of CPP’s 18 million contributors and beneficiaries.”
It’s worth noting the CPPIB’s first equity investment of $ 250 million was done at $ 30 a share, while the second tranche of $ 100 million was made at $ 42.80 per share. If it didn’t believe in Laricina’s future prospects, it would not have increased its ownership stake.
The $ 150 million in debt — which included equity warrants to buy 3.75 million shares over the next five years — came in March last year, at an interest rate of 11.5 per cent. At the time, the CPPIB said it was “pleased to be making an investment that we believe will deliver attractive returns over the long term.”
Despite that statement of support, what’s clear in the affidavit filed this week is it took no more than three months following the debt financing for the CPPIB to start pushing the company to seek strategic alternatives.
If the timeline was that short, why did the CPPIB issue the debt in the first place? From the affidavit, it’s clear the CPPIB was aware it was investing in a company seeking to commercially validate technology in geological formations that has never been achieved.
“It is important to note that to date no successful project has ever been operated in the Grand Rapids formation within 350 kilometres of Germain … or the Grosmont carbonates formation in Canada,” it states. “Hence the pilot work being carried out by Laricina at both of its projects had the basic objective of proving their economic viability to be developed on a commercial basis.”
That changed between March and June? The CPPIB affidavit also states the credit scenario is different relative to when the investment was made last year, but that’s the same for everyone in the energy sector.
The fact there was no successful process to raise additional capital or find a merger candidate is a function of three things — the uncertainty of working with new technology, the fact energy companies are not popular with investors given current capital constraints and the foreign investment restrictions imposed on the oilsands in late 2012 by the Harper government.
In fact, just prior to those new regulations, Laricina was close to inking a $ 350- million private financing from domestic sources.
“But that evaporated when the federal government put in the new regulations because it created a tremendous amount of uncertainty,” Schmidt said.
Had that money come in the door, Laricina would not find itself in the current situation.
Yet the situation with Laricina again shows the challenges associated with developing new technologies, not to mention the patience and capital required.
There are setbacks. It’s never a straight shot to success. Read a biography of any one of the great inventors and scientists. The road to commercial oilsands production is not short either.
Laricina’s challenges highlight the length of time it takes to prove technology and raise the importance of companies bringing in investors who understand this isn’t about a quick flip.
The risk is that Laricina’s experience scares off companies looking at developing new technologies and their potential backers. The reality is that 20 per cent of oilsands assets are held by smaller players.
Canada’s energy sector cannot afford to stop investing in technology.
The way of the future for the oilpatch — to become more competitive and decrease vulnerability to pricing volatility — is through research, development and technological innovation. That was once the focus of AOSTRA, the Alberta Oil Sands Technology and Research Authority. Today it must be something else.
In the best of all worlds, a well funded separate entity would exist where companies could work on new technologies while not disrupting their operations.
Laricina may or may not come through CCAA, the process that allows a company to restructure its finances, negotiate with creditors and avoid bankruptcy. All options are on the table — an outright sale, a restructuring, an equity infusion or landing a joint venture partner with deep pockets.
Given current market conditions, however, this could all take some time.
What can’t be lost in all this is the work Laricina has done in the past decade to unlock previously inaccessible reserves by being innovative with existing technology.