Big Oil fears NDP threat to royalties
After election, energy firms’ stocks sold off heavily, falling by 6% to 8%
Energy is such a critical issue to Alberta, I’m really not that concerned that it’s not going to get the right attention or the right support from the new government.
Leaders in the Alberta oilpatch are already expressing fears that moves by the newly elected NDP government to raise royalty rates will drive capital away from the province and crush any green shoots of recovery in the oilpatch.
The day after the NDP’s election in Alberta, stocks of energy firms in the province sold off heavily, even as crude prices rallied, with the S&P/TSX Capped Energy index down 2.75 per cent. Canadian Oil Sands Ltd., Birchcliff Energy Ltd., Kelt Exploration Ltd. and Bonavista Energy Corp. were some of the TSX’s worst performers, falling between six and seven per cent. Trilogy Energy Corp., NuVista Energy Ltd., RMP Energy Ltd., and MEG Energy Ltd. all saw more than eight per cent of value wiped out.
The NDP secured a stunning victory to end the Progressive Conservatives’ 43-year reign over Alberta on some pledges that strike at the heart of the energy patch: Raising corporate taxes, phasing out coal power, ending the previous government’s “costly and ineffective carbon capture and storage experiment,” and taking a lead on climate change — which industry reads as code for increasing current levies on carbon.
But the energy industry’s biggest concern is the NDP’s pledge to review the province’s royalty regime, which its leader Rachel Notley says offers “the lowest royalties almost in the world.”
Michael Binnion, president of junior company Questerre Energy Corp., warns that any populist charge against major players risks hurting smaller regional players. “Be careful — if you don’t like Big Oil, at the end of the day you may end up hurting Local Oil,” he said.
Meanwhile, “heightened uncertainty” about already precarious sector conditions are the most immediate consequence of the NDP’s victory, says Gary Leach, president of The Explorers and Producers Association of Canada.
The sector had only in recent weeks started to find some stability after the long, 50 per cent plunge in oil since last summer, with prices edging higher, the differential between domestic crude and international benchmarks beginning to ease, and energy stocks staging, until Wednesday, a decent rally. On Wednesday, West Texas Intermediate hit its highest value of the year, closing above $62 US a barrel.
The NDP has said it will establish a royalty resource commission that will report to the new premier, Rachel Notley, and the legislature within six months “to ensure a full and fair return” on royalties to the province.
That stance “increases the concern that the reward for any strengthening in the sector is that the NDP would see that as an opportunity to increase the royalty regime,” said Leach. “That uncertainty alone is a negative and will probably prompt a lot of companies to stand still until it is clear.”
Memories are still fresh of the royalty regime hikes enacted by then premier Ed Stelmach in 2007, which sparked an exile of investors from Alberta and into U.S. energy stocks, says Jeremy McCrea, managing director of institutional research at AltaCorp Capital Inc. Stelmach was eventually forced to reverse virtually all his increases after injuring the provincial economy.
“Based on our recent discussions with portfolio managers, there is a strong indication that their investment capital will stay outside Alberta until there is further clarification on what the NDP will propose on royalty rates — particularly for U.S. portfolio managers with global options,” McCrea said.
A mid-cap producer typically pays royalties of around eight per cent in Alberta, considerably lower than the 21 to 23 per cent in the U.S. Marcellus shale region. But given the additional complications of Alberta’s geology and operating costs, well economics are only marginally better in the province, according to AltaCorp.’s research.
Any royalty increase would likely hurt unconventional producers, especially those lacking strong downstream operations. In addition, the royalty uncertainty could also stall mergers and acquisitions activities as the industry seeks greater clarity before sinking millions of dollars buying up Alberta-focused assets.
“It is probably going to lead to less junior takeovers,” McCrea says. “It’s going to be hard for companies to buy without knowing royalty rates that could change materially.”
Even worse for the province is the prospect of super majors divesting their Alberta assets to focus on other jurisdictions.
Despite serious concerns, the industry is hopeful that the new government will temper its policies as its shifts from election mode to the actual task of governing.
The NDP had said it would stop the PC practice of spending government dollars to promote flagship pipelines on behalf of the industry.
Enbridge Inc., which is looking to build a pipeline from Alberta to the West Coast, said it falls to the industry to “make the case for the project. Energy is such a critical issue to Alberta, I’m really not that concerned that it’s not going to get the right attention or the right support from the new government,” Enbridge CEO Al Monaco said during an investor call Wednesday.
Notley and her team are expected to meet with the Canadian Association of Petroleum Producers in the next two weeks to discuss a potential royalty review and the government’s position on advocating for new pipelines, CAPP’s vicepresident of communications Jeff Gaulin said.
“The biggest thing that our industry would be looking for in working with the Alberta government is some degree of certainty and predictability,” Gaulin said.
Some analysts also believe that the NDP is unlikely to abandon attempts to secure market access for the industry or impose additional costs on a business that generates the bulk of Alberta’s revenues.
“If it plays its cards right, the new government might even be able to succeed in bolstering Alberta’s reputation as serious on climate change, which could actually yield unsuspected dividends,” Pierre Fournier, geopolitical analyst at National Bank Financial, said in a note to clients.