Cleaning up an oily mess

Last month, the Supreme Court of Canada announced it would review a judgment of the Alberta Court of Appeal that threatens to eviscerate Alberta’s oil-well abandonment and reclamation program. The Alberta court’s decision had blocked the Alberta Energy Regulator (AER) from ensuring that proceeds from the sale of a bankrupt exploration and production company’s wells are used to satisfy its outstanding environmental obligations. In short, the decision grants lenders the right to separate the wheat from the chaff when a borrower goes bankrupt. The problem is that the chaff is the abandonment and reclamation of non-producing wells.

How dire is it that financing for the abandonment and reclamation of wells is lost? Last month, a C.D. Howe Institute study found that the potential social cost to rectify this unremediated well problem ranges from $338 million to $8.6 billion. Who pays what portion of these future costs is still undecided, but as things stand today, they will be paid by the active oil and gas companies operating in Alberta. Failing that, Alberta taxpayers will have to cover them.

Prior to this decision, lenders operated with the knowledge that the AER would ensure that a bankrupt company’s well assets were first used to satisfy its abandonment and reclamation obligations, before to the risk of lending (which includes such unforeseeable contingencies as the notorious volatility of oil markets). Lenders increase the rate of interest for high-risk borrowers. The premium charged to such borrowers acts as a form of insurance for lenders against the higher risk of default.

The rub is that these lenders did not expect to have access to these assets in the with un-remediated wells, environmental degradation and unexpected clean-up bills. These additional financial pressures on an economy already bludgeoned by the collapse in oil prices will not help Alberta’s high unemployment rate — Statistics Canada in October reported that Edmonton had the highest unemployment rate for any city in the country, with Calgary a close second. This isn’t just a story of Big Oil versus the banks.

This case hinges on a constitutional issue, and some legal observers are doubtful that the Supreme Court will overturn the decision. They are convinced that the AER must be a creditor and thus it must abide by the rules of federal bankruptcy law. Yet the Supreme Court has asserted that regulators are not always creditors. The court may draw the regulator-creditor distinction in a manner that both shepherds the common law and exacts a fair outcome in this matter.